-----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, B3S7bfCBVZGs9drMrya6AK+0W5bIqNBQMbt8p7jpjsDhYmyzG6tE5aNmNe8wfwoN OQMQ7IqyE5w83srY6YmSVg== 0001012870-98-002924.txt : 19981118 0001012870-98-002924.hdr.sgml : 19981118 ACCESSION NUMBER: 0001012870-98-002924 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 4 CONFORMED PERIOD OF REPORT: 19980930 FILED AS OF DATE: 19981116 FILER: COMPANY DATA: COMPANY CONFORMED NAME: YES ENTERTAINMENT CORP CENTRAL INDEX KEY: 0000943747 STANDARD INDUSTRIAL CLASSIFICATION: GAMES, TOYS & CHILDREN'S VEHICLES (NO DOLLS & BICYCLES) [3944] IRS NUMBER: 943165290 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 000-25916 FILM NUMBER: 98750951 BUSINESS ADDRESS: STREET 1: 3875 HOPYARD RD STE 375 CITY: PLEASANTON STATE: CA ZIP: 94588 BUSINESS PHONE: 5108479444 MAIL ADDRESS: STREET 1: 3875 HOPYARD ROAD STREET 2: SUITE 375 CITY: PLEASANTON STATE: CA ZIP: 94588 10-Q 1 FORM 10-Q FOR PERIOD ENDED 09/30/98 UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) [ X ] Quarterly Report pursuant to Section 13 or 15 (d) of the Securities Exchange Act of 1934. For the quarterly period ended September 30, 1998 ------------------ OR [ ] Transition Report pursuant to Section 13 of 15 (d) of the Securities Exchange Act of 1934. For the transition period from __________ to __________. Commission File Number 0-25916 YES! ENTERTAINMENT CORPORATION (Exact name of registrant as specified in its charter) Delaware 94-3165290 -------- ---------- (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 3875 Hopyard Road, Suite 375, Pleasanton, CA 94588 -------------------------------------------------- (Address of principal executive offices and zip code) (925) 847-9444 (Registrant's telephone number, including area code) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the proceeding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes _X__ NO ___ As of September 30, 1998, there were 16,813,998 shares of the registrant's common stock outstanding. 1 YES! ENTERTAINMENT CORPORATION INDEX PAGE ---- PART I. FINANCIAL INFORMATION Item 1. Financial Statements Consolidated Balance Sheets as of September 30, 1998 and December 31, 1997 3 Consolidated Statements of Operations for the three months and nine months ended September 30, 1998 and September 30, 1997 4 Consolidated Statements of Cash Flows for the nine months ended September 30, 1998 and September 30, 1997 5 Notes to Consolidated Financial Statements 6 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 10 PART II. OTHER INFORMATION Item 1. Legal Proceedings 22 Item 2. Changes in Securities and Use of Proceeds 22 Item 3. Defaults Upon Senior Securities 23 Item 4. Submission of Matters to a Vote of Security Holders 24 Item 5. Other Information 24 Item 6. Exhibits and Reports on Form 8-K 24 SIGNATURES 25 2 ITEM 1. FINANCIAL STATEMENTS YES! ENTERTAINMENT CORPORATION CONSOLIDATED BALANCE SHEETS (IN THOUSANDS)
SEPTEMBER 30, DECEMBER 31, 1998 1997 ------------- ------------ (UNAUDITED) ASSETS Current assets: Cash and cash equivalents $ 169 $ 624 Accounts receivable, net of allowance for doubtful accounts of 263,101 on September 30, 1998 and $137,000 on December 31, 1997 $ 5,834 $ 8,659 Inventories $ 8,986 $ 13,513 Prepaid royalties $ 801 $ 955 Prepaid expenses $ 1,187 $ 1,254 Other current assets $ 2,106 $ 1,989 ----------- ----------- Total current assets $ 19,083 $ 26,994 Property and equipment, net $ 4,343 $ 5,345 Intangibles and deposits, net $ 165 $ 156 ----------- ----------- Total assets $ 23,591 $ 32,495 =========== =========== LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Loans payable $ 9,054 $ 10,709 Accounts payable $ 8,874 $ 11,716 Accrued royalties $ 1,630 $ 2,406 Accrued liabilities $ 663 $ 2,178 Deferred royalty income $ 300 $ --- Dividends payable $ 114 $ 123 Capital lease obligations $ 1 $ 5 ----------- ----------- Total current liabilities $ 20,636 $ 27,137 Convertible debentures $ 1,787 $ 1,741 Stockholders' equity : Series B convertible preferred stock, $0.001 par value: Authorized shares 540,000 Issued and outstanding shares of 10,241 on September 30, 1998 and 387,770 on December 31, 1997 (aggregate liquidation preference of $256,025) $ 228 $ 8,500 Series C convertible preferred stock, $0.001 par value: Authorized shares 540,000 Issued and outstanding shares of 353,132 on September 30, 1998 none issued at December 31, 1997 (aggregate liquidation preference of $8,828,300) $ 7,861 $ --- Common stock,$.001 par value: Authorized shares 48,000,000 Issued and outstanding shares - 16,813,998 on September 30, 1998 $ 17 $ 16 and 15,537,159 on December 31, 1997 Additional paid-in capital $ 92,278 $ 90,434 Deferred compensation $ (479) $ (606) Accumulated deficit $ (98,737) $ (94,727) ----------- ----------- Total stockholders' equity $ 1,168 $ 3,617 ----------- ----------- Total liabilities and stockholders' equity $ 23,591 $ 32,495 =========== ===========
See accompanying notes. 3 YES! ENTERTAINMENT CORPORATION CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED) (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30 SEPTEMBER 30 1998 1997 1998 1997 ----------- ----------- ----------- ----------- Net sales $ 7,883 $ 17,759 $ 25,587 $ 39,417 Cost of sales $ 5,485 $ 12,238 $ 15,835 $ 25,178 ----------- ----------- ----------- ----------- Gross profit $ 2,398 $ 5,521 $ 9,752 $ 14,239 ----------- ----------- ----------- ----------- Operating expenses: Marketing, advertising and promotion $ 791 $ 657 $ 2,761 $ 2,096 Selling, distribution and administrative $ 4,448 $ 7,595 $ 15,019 $ 19,896 ----------- ----------- ----------- ----------- Total operating expenses $ 5,239 $ 8,252 $ 17,780 $ 21,992 ----------- ----------- ----------- ----------- Operating (loss) $ (2,841) $ (2,731) $ (8,028) $ (7,753) Interest income $ 1 $ 42 $ 4 $ 67 Interest expense $ (270) $ (487) $ (918) $ (1,589) Other income (expense), net $ 120 $ (47) $ 62 $ (113) Gain on sale of assets $ 16 --- $ 6,019 --- ----------- ----------- ----------- ----------- Income (loss) before provision for income taxes $ (2,974) $ (3,223) $ (2,861) $ (9,388) Provision for income taxes (income tax benefit) --- $ 616 --- --- ----------- ----------- ----------- ----------- Net income (loss) $ (2,974) $ (3,839) $ (2,861) $ (9,388) Non-cash dividends and discount on preferred stock $ (178) $ (623) $ (1,148) $ (3,223) ----------- ----------- ----------- ----------- Net income (loss) applicable to common stockholders $ (3,152) $ (4,462) $ (4,009) $ (12,611) =========== =========== =========== =========== Basic earnings (loss) per share applicable to common stockholders $ (0.19) $ (0.31) $ (0.24) $ (0.88) =========== =========== =========== =========== Shares used in computing basic earnings (loss) per share 16,726 14,589 16,412 14,290 =========== =========== =========== ===========
See accompanying notes. 4 YES! ENTERTAINMENT CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) (IN THOUSANDS)
NINE MONTHS ENDED SEPTEMBER 30, 1998 1997 ---------- ----------- OPERATING ACTIVITIES Net income (loss) $ (2,861) $ (9,388) Adjustments to reconcile net income (loss) to net cash provided by operating activities: Gain on sale of Product Lines $ (6,019) -- Depreciation and amortization $ 2,277 $ 2,259 Advertising expenses funded by inventory $ 67 $ 118 Debt discount and warrant amortization $ 201 $ 585 Accrued interest converted to convertible debt $ 72 $ 108 Employer contribution to 401(k) plan funded with common stock $ 67 $ 124 Reduction in vendor indebtedness funded with common stock -- $ 1,554 Deferred compensation $ 127 -- Changes in operating assets and liabilities: Accounts receivable $ 2,825 $ 3,584 Inventories $ 1,791 $ 1,955 Prepaid royalties, expenses and other current assets $ (224) $ (317) Accounts payable $ (3,381) $ (5,625) Accrued royalties and liabilities $ (2,461) $ 881 Income taxes payable -- $ (182) ---------- ---------- Net cash (used in) provided by operating activities $ (7,519) $ (4,344) INVESTING ACTIVITIES Proceeds from Sale of product lines $ 10,223 -- Acquisition of property and equipment $ (1,490) $ (3,416) (Increase) decrease in intangibles and deposits and equipment $ (8) $ 41 ---------- ---------- Net cash (used in) provided by investing activities $ 8,725 $ (3,375) FINANCING ACTIVITIES Proceeds from issuance of convertible debentures -- $ 1,385 Principal payments on loans payable $ (1,656) $ (1,254) Principal payments on capital lease obligations $ (5) $ (12) Proceeds from issuance of redeemable convertible preferred stock, net of issuance costs -- $ 7,875 Proceeds from issuance of common stock, net of issuance costs -- $ 28 ---------- ---------- Net cash (used in) provided by financing activities $ (1,661) $ 8,022 ---------- ---------- Net increase (decrease) in cash and cash equivalents $ (455) $ 303 Cash and cash equivalents at beginning of period $ 624 $ 1,572 ---------- ---------- Cash and cash equivalents at end of period $ 169 $ 1,875 ========== ==========
See accompanying notes. 5 YES! ENTERTAINMENT CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) 1. QUARTERLY CONSOLIDATED FINANCIAL STATEMENTS Interim Financial Statements The accompanying unaudited consolidated financial statements have been prepared in accordance with the instructions to Form 10-Q but do not include all of the information and footnotes required by generally accepted accounting principles for complete consolidated financial statements and should, therefore, be read in conjunction with the Company's audited consolidated financial statements and notes thereto for the fiscal year ended December 31, 1997 included in the Annual Report on Form 10-K, filed with the Securities and Exchange Commission on April 15, 1998, and as amended on April 30, 1998. In the opinion of management, all adjustments (which consist only of normal recurring accruals) have been made to present fairly the consolidated operating results for the unaudited periods. The interim operating results are not necessarily indicative of the results for fiscal 1998. Basis of Presentation The accompanying condensed consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries. All significant intercompany accounts and transactions have been eliminated. Use of Estimates The preparation of the 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. 2. INVENTORY (IN THOUSANDS)
SEPTEMBER 30, DECEMBER 31, 1998 1997 -------------- ------------- Raw Materials $ 962 $ 496 Work-in-process $ 72 $ 600 Finished goods $ 7,952 $ 12,417 -------------- ------------- $ 8,986 $ 13,513 ============== =============
6 3. SHAREHOLDER LAWSUITS As of September 18, 1998, the Company was a defendant in several class action lawsuits, as follows: THE STATE SECURITIES CLASS ACTIONS ---------------------------------- Two class actions were filed against the Company, Donald D. Kingsborough, Sol Kershner and Bruce D. Bower in the California Superior Court of the County of Alameda: Wang v. YES! Entertainment Corporation et al., filed on ----------------------------------------------- April 15, 1997; and Miller v. YES! Entertainment Corporation et al., filed ----------------------------------------------- on July 3, 1997. In Miller, Gary L. Nemetz, a director of the Company was ------ also named as a defendant. The Wang lawsuit was purportedly brought on behalf of purchasers of the ----- Company's common stock between October 23, 1996 and December 12, 1996, inclusive. It challenged certain statements made by defendants regarding the Company's V-Link Product, as well as its impact on the Company's sales and profitability. The Wang lawsuit alleged that these statements violated ---- Corporations Code sections 25400 and 25500, which provide a remedy to California residents against persons who make false or misleading statements while engaged in "market activity", constituted "unfair competition" in violation of California Business and Professions Code section 17200; and constituted common law fraud pursuant to California Civil Code sections 1709-1711. The Miller lawsuit was based on the same facts as the Wang lawsuit, but ------- ---- alleged a longer class period of March 29, 1996 to December 12, 1996, and challenged certain additional statements made by defendants. The Miller ------ first amended complaint state only one count for violation of Sections 25400 and 25500 of the California Corporations Code. THE FEDERAL SECURITIES CLASS ACTIONS ------------------------------------ Three class actions were filed against the Company and Messrs. Kingsborough and Kershner in the United States District Court for the Northern District of California: Harow v. YES! Entertainment Corporation et al., filed on ------------------------------------------------ April 17, 1997; Takats v. YES! Entertainment Corporation et al., filed on ---------------------------------------------- June 11, 1997 and Siegel v. YES! Entertainment Corporation et al., filed on ---------------------------------------------- June 27, 1997. On August 6, 1997, these federal actions were consolidated for pretrial proceedings and captioned In re YES! Entertainment Corp. ------------------------------ Securities Litigation, Civil Action No. C-97-1388 MHP. On December 4, 1997 --------------------- the action was referred to the Honorable 7 Charles Breyer of the Northern District of California. The Federal class actions were based upon claims under the federal securities laws which impose liability on persons who make false or misleading statements in connection with the purchase or sale of securities. The Company maintained that the allegations contained in each of the class actions lawsuits are without merit. Nonetheless, the Company concluded that further conduct of the class action lawsuits would be protracted and expensive, and that it would be desirable and beneficial to the Company to settle the lawsuits. Accordingly, on July 8, 1998, the company entered into an agreement that settled all the class action securities lawsuits. The settlement called for payment to the plaintiff class of $2.5 million, which was funded under the Company's insurance policies. On September 18, 1998, the Court entered a Final Judgment and Order of Dismissal which approved the settlement of all the class action securities lawsuits and dismissed with prejudiced the Federal class actions. The Miller lawsuit was dismissed with prejudiced on October 14, 1998. The ------ Wang lawsuit has not yet been dismissed. ---- THE MACHINA LITIGATION ---------------------- On December 19, 1997 the Company filed a demand for arbitration seeking declaratory judgment concerning the interpretation of several license agreements with respondent Machina, Inc. ("Machina"), as well as rescission of certain other contracts. On January 8, 1998, Machina filed an answer generally denying the Company's claims and counterclaiming for payment of royalties. On January 17, 1998, the Company filed a response generally denying the allegations set forth in Machina's counterclaim and raising certain affirmative defenses in response thereto. The arbitration is calendared for November 9-11, 1998. On January 27, 1998, plaintiff Machina, Inc. ("Machina") filed a verified complaint seeking a temporary restraining order, preliminary injunction, and permanent injunction specifically prohibiting the Company from showing certain products at the New York Toy Fair and generally barring the Company from continuing to market, manufacture and sell certain products pursuant to license agreements purportedly terminated by Machina. The Company successfully opposed Machina's ex parte application for temporary restraining order (denied January 27, 1998) and subsequent application for preliminary injunction (denied February 5, 1998). On March 26, 1998, the parties entered into a stipulation staying the 8 matter pending the arbitration. The matter remains on stay, with a status conference calendared for January 15, 1999. The Company is involved from time to time in other litigation matters incidental to its business. 4. SALE OF PRODUCT LINES In March 1998, the Company entered into a definitive agreement with Wham-O, Inc. to purchase the assets of YES!'s Food and Girls Activity product lines. The total purchase price included approximately $10.2 million in cash for the purchase of the lines and related inventories, a $2.5 million contingency payment to be earned based upon certain performance criteria for the Food line in the first year, and royalties of up to $5.5 million over a seven year period. Sales from these product lines were $15.7 million, $5.1 million and $0 for 1997, 1996 and 1995. Gross margin from these product lines were $9.5 million, $2.8 million and $0 for 1997, 1996 and 1995. 5. FASB STATEMENT NO. 130, REPORTING COMPREHENSIVE INCOME As of January 1, 1998 the Company adopted Statement 130, Reporting Comprehensive Income. Statement 130 establishes new rules for the reporting and display of comprehensive income and its components; however, the adoption of the Statement had no impact on the Company's net income or shareholders' equity. During the third quarter of 1998 and 1997, total comprehensive income (loss) amounted to $ (2,974) and $ (3,839) 6. CHANGES TO THE MEMBERSHIP OF THE BOARD OF DIRECTORS In August of 1998, David Costine resigned from the Board of Directors. Mark Shepherd was appointed to the Board of Directors, and to the position of Chief Executive Officer replacing Donald Kingsborough. Donald Kingsborough resigned as Chairman of the Board but remains a director and non-officer employee of the Company. Gary Nemetz was appointed Chairman of the Board. In September of 1998, Stuart J. Chasanoff and Barrett N. Wissman of HW Partners, L.P. were appointed to the Board as representatives of the Preferred Shareholders. 9 YES! ENTERTAINMENT CORPORATION -- PART I, ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Management's Discussion and Analysis of Financial Condition and Results of Operations includes certain forward looking statements about the Company that are based on current expectations. Actual results may differ materially as a result of any one or more of the risks identified in this section, as well as in the section captioned "Business Risk Factors."
RESULTS OF OPERATIONS - --------------------- Three months ended Nine months ended September 30 September 30 ------------------------------------------------------------ 1998 1997 1998 1997 Net Sales 7,883 17,759 25,587 39,417 Cost of sales 5,485 12,238 15,835 25,178 Gross profit 2,398 5,521 9,752 14,239 Gross profit % 30% 31% 38% 36% Operating Expenses 5,239 8,252 17,780 21,992 Operating Expense % 66% 46% 69% 56% Operating (loss) (2,841) (2,731) (8,028) (7,753) Gain on Sale of Assets 16 ___ 6,019 ___ Interest and other expense, net (149) (492) (852) (1,635) Income (loss) before provision (2,974) (3,223) (2,861) (9,388) for income taxes Provision for income taxes ___ 616 ___ ___ Net income (loss) (2,974) (3,839) (2,861) (9,388) Non-cash dividends and discount (178) (623) (1,148) (3,223) on preferred stock Net income (loss) applicable to (3,152) (4,462) (4,009) (12,611) common stockholders
10 NET SALES The Company's net sales for the third quarter of 1998 decreased $9.9 million, a decline of approximately 55.6%, to $7.9 million from $17.8 million in third quarter 1997. International sales in the third quarter of 1998 represented approximately 31.8% or $2.5 million of net sales as compared to 21.2% or $3.8 million in the third quarter of 1997. For the first nine months of 1998 net sales declined by $13.8 million or 35.0% to $25.6 million as compared to $39.4 million in the first nine months of 1997. International sales represented 34.4% or $8.8 million for the for the nine month period ending September 30, 1998 as compared to 29.5% or $11.6 million for the comparable period in 1997. The decrease in both domestic and international sales was due primarily to reduced volume in YES! Gear and Power Penz product lines. Domestic volume was further reduced by the sale of the food line in March 1998 (see Note 4 to the financial statements) which accounted for $3.8 million in sales for third quarter 1997 and $8.4 million in sales for the nine month period ending September 30, 1997. As a result of the sale of the Food lines, to the extent the loss of net sales of these lines are not replaced by increased net sales of current or future products, the Company's net sales and operating results will continue to be materially and adversely affected. The Company recognizes revenue upon shipment of product and computes net sales by concurrently deducting a provision for sales returns and allowances, including allowances for defective returns, price protection, mark downs and other returns. Sales allowances may vary as a percentage of gross sales due to changes in the Company's product mix, defective product allowances or other sales allowances. Sales of toys traditionally have been highly seasonal, with a majority of retail sales occurring during the December holiday season. The Company expects that its operating results will vary significantly from quarter to quarter because the majority of the Company's products are shipped in the quarters ending September 30 and December 31. The Company is dependent on a relatively small number of customers, in particular Toys "R" Us, Inc. and Wal-Mart Stores, Inc., for a significant percentage of its sales. Significant reductions in sales to any one or more of the Company's largest customers would have a material adverse effect on the Company's operating results. Because orders in the toy industry are generally cancelable at any time without penalty, there can be no assurance that present or future customers will not terminate their purchase agreements with the Company or significantly change, reduce or delay the amount of products ordered from the Company. Any such termination of a customer relationship or change, reduction or delay in orders would have a material adverse effect on the Company's operating results. Furthermore, the industry has been impacted by declining overall sales to Toys "R" Us due to changes in Toys "R" Us' inventory policy 11 and store closings which could have a continuing adverse effect on the Company's revenue. COST OF SALES Cost of sales were approximately 70% and 69% of net sales in the third quarters of 1998 and 1997, respectively. The increase in cost of sales as a percentage of net sales in the third quarter of 1998 as compared to the third quarter of 1997 was primarily the result of an increase in close-out sales and greater mix of international sales which tend to have lower margins. For the nine month period ending September 30, 1998 cost of sales as a percentage of total sales was approximately 62% as compared to approximately 64% in the comparable period of 1997. In absolute dollars, cost of sales decreased by approximately $6.8 million for the third quarter of 1998 to $5.5 million, compared to $12.2 million in the third quarter of 1997. For the nine month period ended September 30, 1998 cost of sales decreased by approximately $9.3 million to $15.8 million as compared to approximately $25.2 million in the comparable period in 1997. Cost of sales in the 1998 periods in absolute dollars decreased as a result of reduced net sales.
OPERATING EXPENSES (in thousands) Three months ended Nine months ended September 30 September 30 ----------------------- ------------------------- 1998 1997 1998 1997 ---- ---- ---- ---- Marketing, advertising & promotion $ 791 $ 657 $ 2,761 $ 2,096 Selling, distribution & administrative $ 4,448 $ 7,595 $ 15,019 $ 19,896 ----------------------- ------------------------- Total operating expenses $ 5,239 $ 8,252 $ 17,780 $ 21,992
Marketing, Advertising and Promotion. Marketing, advertising and promotion expenses increased by approximately $134,000 for the third quarter of 1998 from the third quarter of 1997. As a percentage of net sales, marketing, advertising and promotion expenses were 10% in the third quarter of 1998 as compared to 3.7% in the third quarter of 1997. For the nine month period ending September 30, 1998 marketing, advertising, and promotion expenses increased by $665,000 and were 10.8% of net sales as compared to 5.3% of net sales for the comparable period in 1997. The increase for third quarter expenditures was due to the write-off of television production costs and the year to date increases are related to this write-off and the promotion of W3 Speedloader and Air Vectors. The Company expects advertising expense in the last quarter of 1998 to significantly exceed advertising expense in the first three quarters of the year to support anticipated seasonal increases in sales. However, depending on Company liquidity and sales in to retail distribution channels, the Company may choose not to run significant levels of media advertising, which may have an adverse effect on revenue. 12 Selling, Distribution and Administrative. Selling, distribution and administrative expenses decreased by $3.2 million, to $4.5 million in the third quarter of 1998 as compared to $7.6 million in the third quarter of 1997. For the nine month period ended September 30, 1998 selling, distribution, and administrative expenses were reduced by $4.9 million to $15.0 million as compared to $19.9 million in the prior year period. Net reductions in this expense category were the result of cost control measures implemented by the Company. In October, the Company underwent further headcount reductions. INTEREST EXPENSE The following table shows interest expense and interest income for the applicable periods:
(in thousands) Three months ended Nine months ended September 30 September 30 ------------------------------------------------- 1998 1997 1998 1997 ---- ---- ---- ---- Interest income $ 1 $ 42 $ 4 $ 67 Interest expense $ (270) $ (487) $ (918) $ (1,589)
The decrease in interest expense in the quarter ended September 30, 1998 as compared to the comparable period in 1997 is the result of lower bank borrowings and non-cash interest expense recorded in connection with the convertible debentures and preferred stock financing and the restructuring thereof described in detail in the Company's annual report on form 10-K for year ended December 31, 1997. The non-cash interest expense recorded in the quarter ended September 30, 1998 was $56,000. Non-cash interest expense for the nine months ended September 30,1998 was $302,000. The decrease in interest income is the result of lower cash balances maintained by the Company during the quarter and nine months ended September 30, 1998 as compared to 1997. PROVISION FOR INCOME TAXES (INCOME TAX BENEFIT) No income tax provision has been computed for the three and nine months ended September 30, 1998 as the Company did not have net income during such periods. The Company does not expect to earn a profit during 1998. LIQUIDITY AND CAPITAL RESOURCES At September 30, 1998, the Company had cash and cash equivalents of approximately $169,000, a $455,000 decrease from approximately $624,000 at December 31, 1997. The decrease in cash and cash equivalents was due to the $1.7 million used in financing activities and $7.5 million used in operating activities offset primarily by $8.7 million provided by investing activities. 13 The cash used by operating activities was due primarily to the Company's net income which includes a $6.0 million gain from the sale of two product lines, a decrease in accounts receivable of $2.8 million, a decrease in inventories of $1.8 million offset by a decrease in accounts payable of approximately $3.4 million. The $8.7 million provided by investing activities related primarily to proceeds from the sale of two product lines. Since its inception, the Company's internally generated cash flow has not been sufficient to finance trade receivables, inventory, capital equipment requirements and new product development, or to support operations. The Company has met its capital requirements to date primarily through the initial public offering of the Company's common stock, which generated net proceeds to the Company of approximately $10.9 million, the exercise of IPO Warrants which generated approximately $19.7 million, the private sales of approximately $50.0 million of equity securities, borrowings of $2.0 million of long-term convertible subordinated notes (now repaid), borrowings under short term loans from certain stockholders, borrowings under bank loans guaranteed by certain shareholders, borrowings under a factoring agreement with a group of banks, borrowings under a Loan and Security Agreement with Congress Financial Corporation Western (now repaid), and borrowings under an Accounts Receivable Management and Security Agreement entered into with BNY Financial Corporation in July 1995, as amended (the "ARM Agreement"). In addition, in the first quarter of 1997, the Company raised net proceeds of approximately $9.3 million from the sale of convertible debentures, preferred stock and warrants and, in the third quarter of 1997, satisfied trade debt of $3.1 million by issuing common stock to several of its vendors. Pursuant to a Credit Agreement, dated as of September 2, 1998, Infinity Investors Limited extended a $3,050,000 loan to the Company, due June 30, 1999, at an interest rate of 12% per annum. To meet seasonal working capital requirements during 1998, the Company has borrowed substantial amounts under the ARM Agreement. The terms of the ARM Agreement, as amended, provide that BNY Financial Corporation may advance YES! up to $30 million on the basis of the Company's accounts receivable, inventory and product being imported on a letter of credit basis. Loans to the Company are fully secured by all of the Company's assets, including intellectual property, and BNY acquired ownership of all of the Company's trade receivables. The Company is required to remain in compliance with certain financial and other covenants under the ARM Agreement. As of December 31, 14 1997, the Company was required to maintain a monthly quick ratio of 1:1 under the ARM Agreement. The ratio at December 31, 1997 was 0.5:1 and the Company obtained a waiver for the month of December 1997 with regard to the quick ratio requirement. Since the month ended December 31, 1997, BNY Financial Corporation and the Company have amended the ARM Agreement to require that a monthly quick ratio of 0.5:1 be maintained for the quarter ending March 31, 1998, which ratio decreased to 0.4:1 as of June 30, 1998 and shall increase to 0.5:1 thereafter. The Company was not in compliance with this covenant requirement at September 30, 1998, however a waiver is anticipated. As of December 31, 1997, the ARM Agreement required that a ratio of earnings calculated before interest, taxes, depreciation and amortization to total interest expense of 5:1 on a retrospective rolling four quarter basis be maintained. The Company recorded a loss before interest, taxes, depreciation and amortization for the four quarters ended December 31, 1997. The Company obtained a waiver from BNY with regard to this covenant for the fourth quarter of 1997. Since the month ended December 31, 1997, BNY Financial Corporation and the Company have amended the ARM Agreement to require that a ratio of earnings calculated before interest, taxes, depreciation and amortization to total interest expense of 5:1 on a prospective rolling four quarter basis be maintained for the year beginning January 1, 1998 and reverts back to a retrospective rolling four quarter basis effective January 1, 1999. The Company was not in compliance with this covenant requirement at September 30, 1998, however a waiver is anticipated. A tangible net worth of $32 million at December 31, 1997 was required under the ARM Agreement. As of December 31, 1997 the Company had a tangible net worth of $3.5 million. The Company obtained a waiver with respect to this requirement from BNY Financial Corporation for the fourth quarter of 1997. Since the month ended December 31, 1997, BNY Financial Corporation and the Company have amended the ARM Agreement to require a tangible net worth of $6.9 million at March 31, 1998, $3.8 million at June 30, 1998, $4.3 million at September 30, 1998 and $3.0 million at December 31, 1998. The Company was not in compliance with this covenant requirement at September 30, 1998, however a waiver is anticipated. The ARM Agreement also restricts the ability of the Company to obtain working capital in the form of indebtedness, other than indebtedness incurred in the ordinary course of the Company's business or to grant security interests in the assets of the Company. As of September 30, 1998, the Company had borrowings of $6.1 million under the ARM Agreement. The $30 million under the ARM Agreement is subject to a borrowing base which limits the ability to utilize the full amount of the line. The Company's working capital needs will depend upon numerous factors, including the extent and timing of acceptance of the Company's products in the market, the Company's operating results, the cost of increasing the Company's sales and marketing activities and the status of competitive products, none of which can be predicted with certainty. The Company has experienced severe 15 working capital shortfalls in the past, which have restricted the Company's ability to conduct its business as anticipated. As a result of seasonality in the toy industry, the timing of new product introductions, the Company's planned growth and the current financial condition of the Company, there can be no assurance that the Company will not require additional funding. There can be no assurance that any additional financing will be available to the Company, under the ARM Agreement or otherwise, on acceptable terms, if at all, when required by the Company. The inability to obtain such financing would have a material adverse effect on the Company's business and operating results. BUSINESS RISK FACTORS History of Losses; Accumulated Deficit. The Company incurred operating losses of $38.2 and $12.6 million for the years ended December 31, 1997 and 1996, respectively. In 1997, the Company had a net cash outflow of $1.4 million. In the third quarter of 1998, the Company incurred an operating loss of $2.8 million and an operating loss through the nine months ended September 30, 1998 of $8.0 million with a resulting accumulated deficit of $98.7 million. As a result of these losses, the Company has incurred indebtedness to finance its operations. See "Dependence on Restricted Facility." In the event the Company continues to incur operating losses and is unable to obtain additional financing on favorable terms, or at all, in the future, its operating results and financial condition would be materially adversely affected. Dependence on 1998 Products. In 1998, the Company has introduced and expects to commence sales of a number of new product lines in new product categories, such as the W-3 Wild Water Weapons, Air Vectors SFX, Yak Live, Fistful of Aliens and Teddy Ruxpin. In addition, the Company also expects to expand its existing product lines in 1998, particularly in its YES! Gear line of products. Manufacturing of certain of these items in commercial quantities has not commenced or is just commencing. The Company expects that completing the development and the manufacture of its 1998 product lines will place great demands on management and other Company resources. If the Company is not able to complete the development, tooling, manufacture and successful marketing of its 1998 product lines, the Company 's operating results and financial condition would be materially adversely affected. Dependence on Yak Bak and Power Penz. The majority of the Company's current product lines are sold under the YES! Gear brand and consist of Yak Bak and Power Penz products. The Company had a significant decline in the sales of its Yak Bak products in 1997 as compared to 1996 and, while Power Penz revenues were stable, gross margins on its Power Penz sales declined due to a shift from domestic to international sales. These product lines accounted for 51% and 72% 16 of net sales in 1997 and 1996, respectively. The Power Penz brand accounted for 26% and 22% of net sales in 1997 and 1996, respectively. The Company expects these brands to continue to account for a substantial percentage of the Company's business, but there can be no assurance that they will be able to sustain sales at the 1997 level, or at a level necessary to maintain its overall sales and revenues. In addition, a number of toy manufacturers have attempted to duplicate the Company's success in these areas and there can be no assurance that the sale of these competitive products will not impact the sale of the Yak Bak or Power Penz product lines. Just in Time Inventory; Compressed Sales Cycles. Most of the Company's most significant customers have adopted inventory management systems to track sales of particular products and rely on reorders being filled rapidly by suppliers, rather than maintaining large on-hand inventories to meet consumer demand. While these systems reduce a retailer's investment in inventory, they increase pressure on suppliers like the Company to fill orders promptly and shift a significant portion of inventory risk to the supplier. The limited inventory carried by the Company's customers may also reduce or delay consumer sell- through which in turn could impair the Company's ability to obtain reorders of its product in quantities necessary to permit the Company to achieve planned sales and income growth. In addition, the Company may be required to incur substantial additional expense to fill late reorders in order to ensure the product is available at retail prior to Christmas; these may include drop- shipment expense and higher advertising allowances which would otherwise be borne by the Company's customers. In the event that anticipated reorders do not materialize, the Company may incur increased inventory carrying costs. Changes in 1998 Product Line. The Company constantly evaluates the toy markets and its development and manufacturing schedules. In March 1998, the Company sold its Food line, which accounted for a significant portion of its gross margin in Fiscal 1997. See Note 4 of Notes to Consolidated Financial Statements. As the year progresses, the Company may elect to reduce the number of products it currently plans on shipping in 1998 for a variety of reasons, which include but are not limited to more accurate evaluation of demand, supply and manufacturing difficulties, or competitive considerations. Similarly, the Company may add products to its 1998 line either by accelerating development schedules or strategic acquisitions of current product lines. Reducing or adding products from and to the Company's line may have an impact on the Company's financial performance depending on, among other things, the price points, advertising and promotional support for and development, tooling and manufacturing costs of such products, relative to products they replace or are replaced by, as the case may be, if applicable. 17 Sales Concentration Risk. The Company's ten largest customers accounted for 73%, 85% and 87% of sales for the years ending December 31, 1997, 1996 and 1995, respectively. For the year ended December 31, 1997, the Company's two largest customers, TRU and Wal-Mart, accounted for 21% and 13% of net sales, respectively. For the year ended December 31, 1996, the same two customers accounted for approximately 21% and 20% of net sales, respectively, and for the year ended December 31, 1995, TRU and Wal-Mart each accounted for 27% of net sales. While the Company intends to expand distribution to new accounts, the Company expects to continue to depend on a relatively small number of customers for a significant percentage of its sales. Significant reductions in sales to any one or more of the Company's largest customers would have a material adverse effect on the Company's operating results. Because of Toys "R" Us' recent inventory control policy changes and store closings, a continuing adverse effect on the Company's revenue could occur. Orders in the toy industry are generally cancelable at any time without penalty, therefore, there can be no assurance that present or future customers will not terminate their purchase arrangements with the Company or significantly change, reduce or delay the amount of products ordered from the Company. Any such termination of a significant customer relationship or change, reduction or delay in significant orders could have a material adverse effect on the Company's operating results. Price Protection; Stock Balancing; Reliance of Timely Payment. In connection with the introduction of new products, many companies in the toy industry discount prices of existing products, provide for certain advertising allowances and credits or give other sales incentives to their customers, particularly their most significant customers. In addition, in order to address working capital requirements, sales of inventory, changes in marketing trends and other issues, many companies in the toy industry allow retailers to return slow-moving products for credit, or if the manufacturer lowers the prices of its products, to provide price adjustments for inventories on hand at the time the price change occurs. The Company has made such accommodations in the past, and expects to make accommodations such as stock balancing, returns, other allowances or price protection adjustments in the future. Any such accommodations by the Company in the future could have a material adverse effect on the Company's operating results. In addition, in the past certain of the Company's retail customers have delayed payment beyond the date such payment is due. Delays in payments from retail customers in the future could materially impact the Company's anticipated cash flow to the detriment of the Company's business. Delays or reductions in payment have, in the past, increased the Company's reliance on other sources of capital, including bank lines of credit, which has increased the Company's interest expense and, in the case of payment reductions, reduced profitability, or increased loss, by an amount equivalent to such reductions. Delays or reductions in payment in the future would have the same or similar effect. 18 Seasonality. Sales of toys traditionally have been highly seasonal, with a majority of retail sales occurring during the December holiday season. Accordingly, the Company expects that its operating results will vary significantly from quarter to quarter, particularly in the third and fourth quarters, when the majority of products are shipped, and the first quarter, when a disproportionate amount of receivables are collected and trade credits are negotiated. In addition, although indications of interest are provided by retailers early in the year for product shipments for the December holiday season, committed orders are not placed until later in the year and, even when placed, such orders generally are cancelable at any time without penalty. Accordingly, the Company generally must enter into tooling, manufacturing media and advertising commitments prior to having firm orders. As a result, there can be no assurance that the Company can maintain sufficient flexibility with respect to its working capital needs or its ability to manufacture products and obtain supplies of raw materials, tools and components to be able to minimize the adverse effects of an unanticipated shortfall or increase in demand. Failure to accurately predict and respond to consumer demand may cause the Company to produce excess inventory which could materially adversely affect the Company's operating results and financial condition. Conversely, if a product achieves greater success than anticipated, the Company may not have sufficient inventory to meet retail demand, which could adversely impact the Company's relations with its customers. Short Product Cycles. Consumer preferences in the toy industry are continuously changing and are difficult to predict. Few products achieve market acceptance, and even when they do achieve commercial success, products typically have short life cycles. There can be no assurance that (i) new products introduced by the Company will achieve any significant degree of market acceptance, (ii) acceptance, if achieved, will be sustained for any significant amount of time, or (iii) such products' life cycles will be sufficient to permit the Company to recover development, manufacturing, marketing and other costs associated therewith. In addition, sales of the Company's existing product lines are expected to decline over time, and may decline faster than expected unless existing products are enhanced or new product lines are introduced. Failure of new product lines to achieve or sustain market acceptance would have a material adverse effect on the Company's operating results and financial condition. Any or all products within the YES! Gear and Power Penz categories, which categories account for a majority of the Company's overall product sales, will experience relatively short life cycles. International Business Risk. The Company relies principally on foreign distributors to market and sell the Company's products outside the United States. Although the Company's international sales personnel work closely with its foreign 19 distributors, the Company cannot directly control such entities' sales and marketing activities and, accordingly, cannot directly manage the Company's product sales in foreign markets. The percentage of total sales constituting foreign sales for 1995, 1996 and 1997 are 7%, 21% and 32%, respectively. In addition, the Company's international sales may be disrupted by currency fluctuations or other events beyond the Company's control, including political or regulatory changes. To date, substantially all of the Company's international sales have been denominated in US dollars and therefore the Company has not to date experienced any adverse impact from currency fluctuations. To the extent future sales are not denominated in US dollars, currency exchange fluctuations in the countries where the Company does business could materially adversely affect the Company's business, financial condition and results of operations. Dependence on Manufacturing Facilities Based in People's Republic of China. The Company contracts for the manufacture of substantially all of its products with entities based in Hong Kong whose manufacturing facilities are located in the People's Republic of China. In June 1997, Hong Kong became a sovereign territory of the People's Republic of China. While the People's Republic of China has provided assurances that Hong Kong will be allowed to maintain critical economic and tax policies, there can be no assurance that political or social tensions will not develop in Hong Kong that would disrupt this process. In addition, tensions between the Peoples Republic of China and the Republic of China (Taiwan), and the United States' involvement therein, could result either in a disruption in manufacturing in the China mainland or in the imposition of tariffs or duties on Chinese manufactured goods. Either event would have an adverse impact on the Company's ability to obtain its products or on the cost of these products, respectively, such that its operating results and financial condition would be materially adversely affected. Dependence on Restrictive Facility. The Company is dependent on the ARM Agreement with BNY Financial Corporation to meet its financial needs during 1998, due in large part to the seasonality of the Company's business whereby the Company is required to finance the manufacture of a substantial portion of its products in the summer and autumn but does not collect on the sale of these products until the fourth quarter of that year and the first quarter of the following year. Under the terms of the ARM Agreement, BNY Financial Corporation has taken a first priority security interest in substantially all of the Company's assets, including its intellectual property. The ARM Agreement also contains a number of restrictive covenants and events of default, including a provision specifying that it shall be an event of default if Donald Kingsborough, the Company's Vice President of Development, is not active in the management of the Company and is not replaced within ninety (90) days with a suitable individual of comparable experience and capability. In the event the Company falls out of compliance with the ARM Agreement, or BNY Financial Corporation 20 does not provide additional financing, and the Company is unable to obtain financing from other sources, the Company would not be able to finance its operations as contemplated, and its operating results and financial condition would be materially adversely affected. Dependence on Key Personnel. The Company's future success will depend to a significant extent on the efforts of the key management personnel, including Mark Shepherd, the Company's Chief Executive Officer and Chief Financial Officer and other key employees. The loss of one or more of these employees could have a material adverse effect on the Company's business. In addition, the Company believes that its future success will depend in large part on its ability to attract and retain highly qualified management, operations and sales personnel. There can be no assurance that the Company will be able to attract and retain the employees it needs to in order to ensure its success. Delisting on the Nasdaq Stock Exchange The Company has received notification from The Nasdaq Stock Market of its intent to delist the Company's common stock from the Nasdaq National Market. Nasdaq cited the Company's failure to meet the minimum bid price maintenance and the minimum market value public float requirements for a continued listing of YES!'s common stock on the Nasdaq National Market. YES! has requested and been granted an oral hearing on November 13, 1998 to appeal Nasdaq's determination, and the Company's shares will continue to be listed on the Nasdaq National Market while the appeal is being heard. The Company, while appealing the delisting, does not expect to prevail. In addition, as of September 30, 1998, the Company no longer met the Nasdaq net tangible assets maintenance requirement. Impact of Year 2000. The Company is in the process of evaluating and updating its internal management information systems so that they will have the capability to manage and manipulate data involving the transition of dates from 1999 to 2000 without functional or data abnormality and without inaccurate results relating to such dates. The Company has contracted with a vendor to perform all Year 2000 system upgrades necessary. Several other vendors are prepared to perform Year 2000 systems upgrades should the initial vendor be unable to fulfill all requirements. The Company expects to complete the updating of its current systems before 2000. Estimated cost to address Year 2000 issues is approximately $95,000. Any new systems implemented by the Company would be Year 2000 compliant. Other participants in the Company's industry may also experience functional or data abnormality. Any failures on the part of the Company or the Company's manufacturers, lending institutions and key customers to ensure their respective software complies with Year 2000 requirements, could have a material adverse effect on the financial condition and results of operation of the Company. The Company has completed its initial evaluation and believes no material adverse effect on the financial condition of the Company will result. 21 PART II. OTHER INFORMATION --------------------------- ITEM 1. LEGAL PROCEEDINGS See Note 3 to the Consolidated Financial Statements on pages 7-9 hereof. ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS On September 2, 1998, pursuant to a Securities Exchange Agreement (the "Exchange Agreement") entered into among the Company and Infinity Investors Limited, Glacier Capital Limited and Infinity Emerging Opportunities Limited (collectively, the "Investors"), the Company exchanged with the Investors an aggregate of (i) 348,670 shares of the Company's Series B Convertible Preferred Stock ("Series B Stock") for the like number of shares of the Company's Series C Convertible Preferred Stock ("Series C Convertible Stock"), and (ii) $1,835,921 principal amount of 5% Convertible Debentures ("Old Debentures") for the like principal amount of 5% Convertible Debentures ("New Debentures"). These securities were exchanged and sold without registration in reliance on Section 4(2) under the Securities Act of 1933, as amended, as the Investors are "accredited investors" within the meaning of the Securities Act. The Exchange Agreement provides that the Investors will not convert the Series C Convertible Preferred Stock or New Debentures, or sell any shares of Series C Convertible Preferred Stock, Common Stock or New Debentures (subject to certain limited exceptions), in each case until the earlier of February 21, 1999 or the occurrence of an Event of Default (as defined in the Exchange Agreement). The Series C Convertible Preferred Stock and New Debentures are substantially similar to the Series B Stock and Old Debentures, except that certain conversion and sale restrictions applicable to the Series B Stock and Old Debentures do not apply to the Series C Convertible Preferred Stock and the New Debentures, and the holders of the Series C Convertible Preferred Stock are entitled to elect two directors to the Company Board of Directors. The Exchange Agreement also requires the Registrant to call a meeting of the stockholders of the Registrant to (i) approve the issuance of all of the shares of Common Stock upon conversion of the Series C Convertible Preferred Stock and New Debentures (conversion is currently limited due to certain Nasdaq 22 requirements which will no longer apply if such stockholder approval is obtained or the Company's Common Stock is delisted from the Nasdaq National Market), and (ii) to increase the number of shares of Common Stock authorized for issuance. Failure of the Company to obtain such stockholder approval will constitute an Event of Default. The Company is not seeking the stockholder approval described in (i) above and is seeking a waiver of such stockholder approval as the Company anticipates that the Company's Common Stock will be delisted from the Nasdaq National Market. The Company is seeking stockholder approval of the increase in the authorized number of shares of Common Stock described in (ii) above. If the Company's Common Stock is delisted from the Nasdaq National Market, the Investors are entitled to require that the Company redeem the Series C Convertible Preferred Stock and New Debentures. At the option of the holder, (i) the Series C Convertible Preferred Stock is convertible into Common Stock at a conversion rate per share equal to $25.00 divided by 81.25% of the lowest trading price of the Common Stock over the last 30 trading days prior to conversion (subject to certain antidilution adjustments), and (ii) the New Debentures are convertible into Common Stock at a conversion rate of the dollar amount being converted divided by 81.25% of the of the lowest trading price of the Common Stock over the last 30 trading days prior to conversion (subject to certain antidilution adjustments), in each case subject to the limitations set forth above. The issuance of the Series C Convertible Preferred Stock and New Debentures was reported on a Current Report on Form 8-K filed with the SEC on September 16, 1998, and the Exchange Agreement, Certificate of Designation of the Series C Convertible Preferred Stock and form of New Debenture were filed as exhibits to such report. Reference is made to such report and exhibits for a description of the full terms of the Series C Convertible Preferred Stock and New Debentures. ITEM 3. DEFAULTS UPON SENIOR SECURITIES The Company is not in compliance with certain covenants under the ARM Agreement with the Bank of New York. See "Part I - Item 2. - Management's Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources." 23 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None. ITEM 5. OTHER INFORMATION In September 1998, Stuart J. Chasanoff and Barrett N. Wissman of HW Partners, L.P. were appointed to the Board of Directors ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K a) EXHIBITS 4.1* Form of 5% Convertible Debenture due April 30, 2002. 4.2* Amended Certificate of Designation of Series C Preferred Shares. 10.1* Securities Exchange Agreement dated September 2, 1998. 10.2 Credit Agreement, dated as of September 2, 1998, between the Company and Infinity Investors Limited. 10.3 Security Agreement, dated as of September 2, 1998, between the Company and Infinity Investors Limited. 27.1 Financial Data Schedule for the quarter ended September 30, 1998 (*) Previously filed on Current Report on Form 8-K filed September 16, 1998. b) REPORTS ON FORM 8-K A Current Report on form 8-K was filed on September 16, 1998. 24 SIGNATURES Pursuant to the requirements of the Securities and Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. YES! Entertainment Corporation ------------------------------ Registrant Date November 13, 1998 /s/ Mark Shepherd ----------------- ----------------- Mark Shepherd Chief Executive Officer and Chief Financial Officer (Principal Executive Officer and Principal Financial and Chief Accounting Officer) 25 EX-10.2 2 CREDIT AGREEMENT, DATED 09/02/98 EXHIBIT 10.2 CREDIT AGREEMENT CREDIT AGREEMENT, dated as of September 2, 1998, between YES! ENTERTAINMENT CORPORATION, a Delaware corporation as borrower (the "Borrower") -------- and INFINITY INVESTORS LIMITED, a Nevis, West Indies corporation, as lender (the "Lender" or "Infinity"). ------ W I T N E S S E T H: - - - - - - - - - - WHEREAS, subject to and upon the conditions herein set forth, the Lender is willing to make available to the Borrower the credit facility provided for herein; NOW, THEREFORE, IT IS AGREED: Section 1. Definitions and Principles of Construction. ------------------------------------------ 1.1 Defined Terms. As used in this Agreement, the following ------------- terms shall have the following meanings (such meanings to be equally applicable to both the singular and plural forms of the terms defined): "Affiliate" shall mean, with respect to any Person, any other Person --------- (other than an individual) directly or indirectly controlling, controlled by, or under direct or indirect common control with, such Person; provided, however, -------- ------- that an Affiliate of an individual shall include any Person in which such individual, directly or indirectly, owns more than 5% of the equity or voting interests of such Person or serves as an officer or director of such Person. A Person shall be deemed to control another Person if such Person possesses, directly or indirectly, the power to direct or cause the direction of the management and policies of such other Person, whether through the ownership of voting securities, by contract or otherwise. "Agreement" shall mean this Credit Agreement, as modified, --------- supplemented or amended from time to time. "Bankruptcy Code" shall have the meaning provided in Section 8.5. --------------- "Borrower" shall have the meaning provided in the first paragraph of -------- this Agreement. "Borrowing" shall mean the making of any Loan pursuant hereto. --------- "Borrowing Date" shall mean September 2, 1998 or such other date as -------------- the Lender and the Borrower agree to in writing. "Business Day" shall mean for all purposes any day except Saturday, ------------ Sunday and any day which shall be in New York or California a legal holiday or a day on which banking institutions are authorized or required by law or other government action to close. "Collateral" shall mean all Security Agreement Collateral. ---------- "Commitment" shall mean U.S.$3,050,000. ---------- "Credit Documents" shall mean this Agreement, the Note, and the ---------------- Security Documents. "Default" shall mean any event, act or condition which with notice or ------- lapse of time, or both, would constitute an Event of Default. "Default Rate" shall have the meaning provided in Section 2.4(b). ------------ "Dollars" and the sign "$" shall each mean freely transferable lawful ------- - money of the United States. "Effective Date" shall mean the date on which this Agreement is -------------- executed by the Lender and the Borrower. "Event of Default" shall have the meaning provided in Section 8. ---------------- "Exchange Agreement" shall mean the agreement, dated as of September ------------------ 2, 1998, among the Holders and the Borrower, pursuant to which the Borrower exchanged the July Debentures for the Replacement Debentures and exchanged the Series B Preferred for the Series C Preferred. "Holders" shall mean Infinity Investors Limited, Glacier Capital ------- Limited and Infinity Emerging Opportunities Limited. "Indebtedness" shall mean, as to any Person, without duplication, (i) ------------ all indebtedness (including principal, interest, fees and charges) of such Person for borrowed money or for the deferred purchase price of property or services, (ii) the face amount of all letters of credit issued for the account of such Person and all drafts drawn thereunder, (iii) all liabilities secured by any Lien on any property owned by such Person, whether or not such liabilities have been assumed by such Person, (iv) the aggregate amount required to be capitalized under leases under which such Person is the lessee, (v) all obligations and liabilities of such Person arising under or pursuant to any interest rate "swap", "cap", "collar" or other interest rate protection arrangement, and (vi) all obligations of such Person guaranteeing or intended to guarantee any Indebtedness, leases, dividends or other obligations of any other Person in any manner, whether directly or indirectly. "July Debentures" shall mean 5% convertible debentures, due April 30, --------------- 2002 issued by the Borrower pursuant to the Purchase Agreement. "Lender" shall have the meaning provided in the first paragraph of ------ this Agreement. "Lien" shall mean any mortgage, pledge, hypothecation, assignment, ---- deposit arrangement, encumbrance, lien (statutory or other), preference, priority or other security agreement of any kind or nature whatsoever (including, without limitation, any conditional sale or other title retention agreement, any financing or similar statement or notice filed under any recording or notice statute, and any lease having substantially the same effect as any of the foregoing). -2- "Loan" shall have the meaning provided in Section 2.1. ---- "Material Adverse Effect" shall mean, with respect to any Person (i) ----------------------- any material adverse effect on the condition (financial or otherwise), business, operations, assets, revenues, properties or prospects of such Person and/or (ii) any material adverse effect on the ability of such Person to perform any of its obligations under the Credit Document to which it is a party. "Maturity Date" shall mean June 30, 1999. ------------- "Note" shall have the meaning provided in Section 2.3. ---- "Obligations" shall mean all amounts owing to the Lender pursuant to ----------- the terms of this Agreement or any other Credit Document (including, without limitation, principal and interest under the Note). "Permitted Liens" shall have the meaning provided in Section 7.3. --------------- "Person" shall mean any individual, partnership, joint venture, firm, ------ corporation, association, trust or other enterprise or any government or political subdivision or any agency, department or instrumentality thereof. "Process Agent" shall have the meaning provided in Section 9.7. ------------- "Purchase Agreement" shall mean that certain Amended and Restated ------------------ Securities Purchase Agreement, dated July 25, 1998, between Yes! Entertainment Corporation, Infinity Investors Limited, Fairway Capital Limited, and Cappello & Laffer Capital Corp. "Replacement Debentures" shall mean 5% convertible debentures, due ---------------------- April 30, 2002, issued by the Borrower pursuant to the Exchange Agreement. "SEC" shall mean the Securities and Exchange Commission or any --- governmental agencies substituted therefor. "Security Agreement" shall have the meaning provided in Section ------------------ 4.5(ii). "Security Agreement Collateral" shall mean all "Collateral" as defined ----------------------------- ---------- in Section 1.01(a) of the Security Agreement. "Security Assignment" shall have the meaning provided in Section ------------------- 4.5(i). "Security Documents" shall mean the Security Agreement and the ------------------ Security Assignment. "Series B Preferred Stock" shall mean the Series B preferred stock ------------------------ issued by the Borrower pursuant to the Purchase Agreement. "Series C Preferred Stock" shall mean the Series C preferred stock ------------------------ issued by the Borrower pursuant to the Purchase Agreement. "Subsidiary" shall mean, as to any Person, (i) any corporation more ---------- than 50% of whose stock of any class or classes having by the terms thereof ordinary voting power to elect a -3- majority of the directors of such corporation (irrespective of whether or not at the time stock of any class or classes of such corporation shall have or might have voting power by reason of the happening of any contingency) is at the time owned by such Person and/or one or more Subsidiaries of such Person and (ii) any partnership, association, joint venture or other entity in which such Person and/or one or more Subsidiaries of such Person has more than a 50% equity interest at the time. "Taxes" shall have the meaning provided in Section 3.5. ----- "United States" and "U.S." shall each mean the United States of ------------- ---- America. "Wham-O Contract" shall mean that certain Asset Purchase Agreement, --------------- dated February 27, 1998, between the Borrower and Wham-O, Inc. Section 1.2 Principles of Construction. All references to sections, -------------------------- schedules and exhibits are to sections, schedules and exhibits in or to this Agreement unless otherwise specified. The words "hereof," "herein" and "hereunder" and words of similar import when used in this Agreement shall refer to this Agreement as a whole and not to any particular provision of this Agreement. Section 2. Amount and Terms of Credit. -------------------------- 2.1 The Loan. (a) Subject to and upon the terms and conditions -------- set forth herein, the Lender agrees, on the Borrowing Date, to make a loan (the "Loan") to the Borrower, which Loan shall (i) be made as a single Borrowing and (ii) be in an amount equal to U.S.$3,000,000.00. The Loan is available only on the terms and conditions specified hereunder, and though repaid, in full or in part, at maturity or by prepayment, may not be reborrowed in full or in part. 2.2 Disbursement of Funds. Subject to the terms and conditions --------------------- hereof, no later than 12:00 Noon (New York time) on the Borrowing Date, the Lender will make available, through its lending office, the amount of the Loan, net of fees and costs payable to the Lender, to or to the order of the Borrower pursuant to wire instructions provided to the Lender not later than two Business Days prior to the Borrowing Date. 2.3 Notes; Evidence of Obligations. The Borrower's obligation to ------------------------------ pay the principal of, and interest on, the Loan shall be evidenced by a promissory note duly executed and delivered by the Borrower on or before the Borrowing Date substantially in the form of Exhibit A, with blanks appropriately completed in conformity herewith (the "Note"). The Note shall (i) be executed by the Borrower, (ii) be payable to the order of the Lender and be dated as of the Borrowing Date, (iii) be in a stated principal amount equal to the Commitment, (iv) provide for repayment of principal as provided in Section 3.3, and (v) bear interest as provided in Section 2.4. The Lender will note on its internal records the amount of the indebtedness of the Borrower to the Lender as a result of the Loan, including the amounts of principal, interest and other amounts payable and paid to the Lender from time to time under this Agreement and the Note. Such internal records shall constitute prima facie evidence of the existence and amounts of the Loan and other Obligations therein noted; provided, however, that the failure of the Lender to make such notations, or any error therein, shall not in any manner affect the obligations of the Borrower to repay or pay the Loan in accordance with the terms of this Agreement. -4- 2.4 Interest. (a) The Borrower agrees to pay interest in respect of -------- the unpaid principal amount of each Loan outstanding from time to time, from the Borrowing Date thereof until the maturity thereof (whether by acceleration or otherwise), at a fixed rate per annum of 12.0%. (b) Overdue principal and, to the extent permitted by law, overdue interest in respect of the Loan and any other overdue amount payable by the Borrower hereunder shall bear interest at a rate per annum equal to the lesser of (i) 15% or (ii) the maximum rate permitted by applicable law (the "Default Rate"). ------------ (c) Accrued (and theretofore unpaid) interest in respect of each Loan shall be payable at maturity (whether by acceleration or otherwise) and, after such maturity, on demand. 2.5 Increased Costs, Illegality, etc. (a) In the event that the --------------------------------- Lender shall have determined (which determination shall, absent manifest error, be final and conclusive and binding upon all parties hereto) at any time (i) that the Lender shall incur increased costs or reductions in the amounts received or receivable hereunder with respect to the Loan because of any change since the date hereof in any applicable law or in the interpretation or administration thereof, including the introduction of any new law, or (ii) that the making or continuance of the Loan has been made unlawful by any law or impossible by compliance by the Lender in good faith with any law, then, and in any such event, the Lender shall promptly give telephonic notice (confirmed in writing) to the Borrower. Thereafter (x) in the case of clause (i) above, if the Borrower does not elect to prepay such Loan within 30 days after receipt of notice thereof, the Borrower shall pay to the Lender, upon written demand therefor (and against a certificate specifying in reasonable detail the nature of the increased cost or reduction, the date from which it has been applied and the method of calculating such increased cost), such additional amounts (in the form of an increased rate of, or a different method of calculating, interest) as shall be required to compensate the Lender for such increased costs or reductions in amounts received or receivable hereunder, and (y) in the case of clause (ii) above, the Borrower shall repay the Loan as promptly as possible and, in any event, within the time period required by law. (b) If the Lender determines at any time that the introduction or implementation of, or any change in, any law after the date hereof concerning capital adequacy, or any change in interpretation or administration thereof by any governmental authority, central bank or comparable agency, will have the effect of increasing the amount of capital required or expected to be maintained by the Lender based on the existence of the Lender's obligations hereunder, then the Borrower shall pay to the Lender, within 15 Business Days of its written demand therefor, such additional amounts as shall be required to compensate the Lender for the increased cost to the Lender as a result of such increase of capital. In determining such additional amounts, the Lender will act in good faith and will use averaging and attribution methods which are reasonable. The Borrower shall have no obligation to reimburse the Lender for any costs incurred more than 90 days prior to demand therefor by the Lender. Section 3. Prepayments; Payments. --------------------- 3.1 Voluntary Prepayments. The Borrower shall have the right to --------------------- prepay the Loan, without premium or penalty, in whole or in part at any time and from time to time on the following terms and conditions: (i) the Borrower shall give the Lender at least five Business -5- Days' prior written notice of its intent to prepay the Loan and the amount of such prepayment; (ii) each prepayment in respect of any Loan shall be in an aggregate principal amount of at least U.S.$100,000; and (iii) the Borrower shall compensate the Lender, upon its written request, for all reasonable and actual losses, expenses and any liabilities (including, without limitation, any loss, expense or liability incurred by reason of the liquidation or redeployment of deposits or other funds required by the Lender to fund the Loan or any expense or liability incurred by the Lender in settlement of any swap or other interest rate protection agreement entered into by the Lender in connection with the Loan) if for any reason the repayment of the Loan occurs other than as specified in Section 3.3. 3.2 Mandatory Prepayments. If at any time after the Borrowing --------------------- Date the Borrower is entitled to receive any payments under the Wham-O Contract, whether such right accrued prior to or following the Borrowing Date (but excluding monies payable to the Borrower under the Transition Services Agreement entered into as of March 20, 1998, by the Borrower and Wham-O, Inc.), such payments shall be made directly to the Lender and applied first to any outstanding interest and then to principal. 3.3 Scheduled Repayment. The outstanding principal of the Loan ------------------- shall be paid in full on the Maturity Date. 3.4 Method and Place of Payment. Except as otherwise specifically --------------------------- provided herein, all payments under this Agreement or any Note shall be made to the Lender not later than 12:00 Noon (New York time) on the date when due and shall be made in Dollars in immediately available funds at Citibank, New York City, ABA# 021 000 089, Credit to Bear Stearns Acct # 0925-3186, f/c/o Infinity Investors Limited, Account Number 102-05092 or to such other location as the Lender may from time to time specify in writing. Whenever any payment to be made hereunder or under any Note shall be stated to be due on a day which is not a Business Day, the due date thereof shall be extended to the next succeeding Business Day and, with respect to payments of principal, interest, if any, shall be payable at the applicable rate during such extension. 3.5 Net Payments. All payments made by the Borrower hereunder or ------------ under any Note will be made without setoff, counterclaim or other defense. All such payments will be made free and clear of, and without deduction or withholding for, any present or future taxes, value-added taxes, levies, imposts, duties, fees, assessments or other charges of whatever nature now or hereafter imposed by any jurisdiction or by any political subdivision or taxing authority thereof or therein (but excluding, except as provided below, any tax imposed on or measured by the net income of the Lender pursuant to the laws of the jurisdiction (or any political subdivision or taxing authority thereof or therein) in which the principal office or lending office of the Lender is located) and all interest, penalties or similar liabilities with respect thereto (collectively, "Taxes"). If any amounts are payable in respect of Taxes pursuant to the preceding sentence, then the Borrower shall also reimburse the Lender, upon the written request of the Lender, for all value-added and other taxes imposed on or measured by the net income of the Lender pursuant to the laws of the jurisdiction (or any political subdivision or taxing authority thereof or therein) in which the principal office or lending office of the Lender is located as the Lender shall determine are payable by the Lender in respect of amounts paid to or on behalf of the Lender pursuant to the preceding sentence. If any Taxes are so levied or imposed, the Borrower agrees to pay the full amount of such Taxes and such additional amounts as may be necessary so that every payment of all amounts due hereunder or under the Note, after -6- withholding or deduction for or on account of any Taxes, will not be less than the amount provided for herein or in the Note. The Borrower will furnish to the Lender within 45 days after the date the payment of any Taxes is due pursuant to applicable law certified copies of tax receipts evidencing such payment by the Borrower. The Borrower will indemnify and hold harmless the Lender, and reimburse the Lender upon its written request, for the amount of any Taxes or other taxes described above which are levied or imposed on and paid by such Lender. Section 4. Conditions Precedent. -------------------- The obligation of the Lender to make the Loan is subject to the satisfaction of the following conditions as of the Borrowing Date: 4.1 Execution of Agreement; Note. There shall have been ---------------------------- delivered to the Lender this Agreement and the Note, each duly executed by the Borrower. 4.2 No Default; Representations and Warranties. At the time of ------------------------------------------ the Borrowing (and after giving effect thereto) (i) there shall exist no Default or Event of Default and (ii) all representations and warranties contained herein and in the other Credit Documents shall be true and correct in all material respects with the same effect as though such representations and warranties had been made on and as of the date of the Borrowing. 4.3 Opinion of Borrower's Counsel. The Lender shall have received ----------------------------- from counsel to the Borrower an opinion addressed to the Lender and dated the Borrowing Date in substantially the form attached hereto as Exhibit B and covering such additional matters incident to the transactions contemplated herein as the Lender may reasonably request. 4.4 Officers Certificates; Proceedings. ---------------------------------- (i) The Lender shall have received a certificate, dated the Borrowing Date, substantially in the form of Exhibit C, signed by the President or a Vice President of the Borrower, and attested to by the Secretary or an Assistant Secretary of the Borrower, of corporate resolution authorizing the execution and delivery of the Credit Documents to which the Borrower is a party, and the performance of its obligations thereunder, and such other matters as the Lender may reasonably request, together with copies of the certificate of incorporation and by-laws of the Borrower and the resolutions of the Borrower referred to in such certificate. (ii) All corporate and legal proceedings and all instruments and agreements in connection with the transactions contemplated in this Agreement and the other Credit Documents shall be satisfactory in form and substance to the Lender, and the Lender shall have received all information and copies of all documents and papers, including records of corporate or partnership proceedings, as the case may be, and governmental approvals, if any, which the Lender reasonably may have requested in connection therewith, such documents and papers where appropriate to be certified by proper corporate or governmental authorities, as the case may be. 4.5 Security Documents. ------------------ (i) The Borrower shall have duly authorized, executed and delivered a security assignment substantially in the form of Exhibit D (as modified, -7- supplemented or amended from time to time, the "Security Assignment"), pursuant ------------------- to which the Borrower shall have granted to the Lender a first priority Lien on all of the Borrower's rights under the Wham-O Contract, and all acknowledgments and consents required thereunder, including those of Wham-O, Inc., have been obtained and shall be in full force and effect. Additionally, the Borrower shall have delivered: (a) acknowledgment copies of proper financing statements (Form UCC-1) duly filed under the UCC of each jurisdiction as may be necessary or, in the opinion of the Lender, desirable to perfect the security interests purported to be created by the Security Assignment; (b) certified copies of requests for information or copies (Form UCC-11), or equivalent reports, listing the financing statements referred to in clause (a) above and all other effective financing statements that name the Borrower as debtor and that are filed in the jurisdictions referred to in said clause (a), together with copies of such other financing statements (none of which shall cover the Borrower's rights under the Wham-O Contract except to the extent evidencing Permitted Liens); (c) evidence of the completion of all other recordings and filings of, or with respect to, the Security Assignment as may be necessary or, in the opinion of the Lender, desirable to perfect the security interests purported to be created by the Security Agreement; and (d) evidence that all other actions necessary or, in the opinion of the Lender, desirable to perfect and protect the security interests purported to be created by the Security Assignment have been taken. (i) The Borrower shall have duly authorized, executed and delivered a security agreement substantially in the form of Exhibit E (as modified, supplemented or amended from time to time, the "Security Agreement"), ------------------ covering all the Borrower's present and future Security Agreement Collateral, together with: (a) acknowledgment copies of proper financing statements (Form UCC-1) duly filed under the UCC of each jurisdiction as may be necessary or, in the opinion of the Lender, desirable to perfect the security interests purported to be created by the Security Agreement; (b) certified copies of requests for information or copies (Form UCC-11), or equivalent reports, listing the financing statements referred to in clause (a) above and all other effective financing statements that name the Borrower as debtor and that are filed in the jurisdictions referred to in said clause (a), together with copies of such other financing statements (none of which shall cover the Security Agreement Collateral except to the extent evidencing Permitted Liens); (c) evidence of the completion of all other recordings and filings of, or with respect to, the Security Agreement as may be necessary or, in the opinion of the Lender, desirable to perfect the security interests purported to be created by the Security Agreement; and -8- (d) evidence that all other actions necessary or, in the opinion of the Lender, desirable to perfect and protect the security interests purported to be created by the Security Agreement have been taken. 4.6 Consent Letter. The Lender shall have received a letter from -------------- the Borrower, substantially in the form attached hereto as Exhibit F, indicating its appointment of the Process Agent as its agent to accept service of process in connection with the transactions contemplated by the Credit Documents, together with the countersignature of the process agent indicating its consent to serve in such capacity. 4.7 Governmental Approvals. The Borrower shall have delivered ---------------------- evidence satisfactory to the Lender in all respects that all governmental approvals required in connection with (i) the execution, delivery and performance of the Credit Documents and (ii) the legality, validity, binding effect and enforceability of any and all such Credit Documents, have been received by the Borrower. 4.8 Litigation. No litigation, action, suit, investigation, claim ---------- or proceeding shall be pending or threatened with respect to this Agreement or any other Credit Document, the transactions contemplated hereby or which could reasonably be expected to have a Material Adverse Effect on the Borrower. 4.9 Payments. All fees and other amounts required to be paid or -------- deposited on or prior to the Borrowing Date under this Agreement and the other Credit Documents shall have been paid or deposited. 4.10 No Material Adverse Change. Nothing shall have occurred -------------------------- since June 30, 1998 (and the Lender shall have become aware of no facts or conditions not previously known), which the Lender shall determine has, or could reasonably be expected to have, a Material Adverse Effect on the Borrower. 4.11 Consent to First Priority Lien. The Borrower shall have ------------------------------ received the written consent of the Bank of New York permitting the Borrower to grant a first priority lien in the Wham-O Contract to the Lender and subordinating all existing liens of The Bank of New York in the Wham-O Contract to the first priority lien in the Wham-O Contract. 4.12 Entering into the Exchange Agreement. The Lender and the ------------------------------------ Borrower shall have entered into the Exchange Agreement. 4.13 Replacement of Debentures. The Borrower shall have issued ------------------------- Replacement Debentures which shall be issued pursuant to the Exchange Agreement. 4.14 Exchange of Series B Preferred. The Borrower shall have ------------------------------ filed a new certificate of designation with respect to the Borrower's Series C Preferred Stock, and the Holders shall have received their shares of Series C Preferred in exchange for their shares of Series B Preferred, as contemplated by the Exchange Agreement. 4.15 Mutual Releases. The Lender and the Borrower shall have --------------- executed mutual releases of all claims and causes of action arising with respect to actions taken prior to the effective date of the Exchange Agreement. -9- Section 5. Representations, Warranties and Agreements. ------------------------------------------ In order to induce the Lender to enter into this Agreement and to make the Loan, the Borrower makes the following representations, warranties and agreements as of the Effective Date, which shall survive the execution and delivery of this Agreement and the Note and the making of the Loan. 5.1 Organization. The Borrower (i) is a duly organized and ------------ validly existing corporation in good standing under the laws of Delaware, (ii) has the power and authority to own its property and assets and to transact the business in which it is engaged and (iii) is duly qualified as a foreign corporation and in good standing in each jurisdiction where the ownership, leasing or operation of property or the conduct of its business requires such qualification. 5.2 Power and Authority. The Borrower has the power and authority to ------------------- execute, deliver and perform the terms and provisions of each of the Credit Documents to which it is a party and has taken all necessary action to authorize the execution, delivery and performance by the Borrower of each of such Credit Documents. The Borrower has duly executed and delivered each of the Credit Documents to which the Borrower is a party, and each of such Credit Documents constitutes the legal, valid and binding obligation of the Borrower enforceable in accordance with its terms. 5.3 No Violation. Neither the execution, delivery or performance by ------------ the Borrower of the Credit Documents nor compliance by the Borrower with the terms and provisions hereof and thereof, (i) shall contravene any provision of any law, statute, rule or regulation or any order, writ, injunction or decree of any court or governmental instrumentality, or (ii) shall conflict or be inconsistent with or result in any breach of any of the terms, covenants, conditions or provisions of, or constitute a default under, or result in the creation or imposition of (or the obligation to create or impose) any Lien upon any of the property or assets of the Borrower pursuant to the terms of any indenture, mortgage, deed of trust, credit agreement, loan agreement or any other agreement, contract or instrument to which the Borrower is a party or by which the Borrower or any of the Borrower's property or assets is bound or to which it may be subject. 5.4 Consent, Approvals, Etc. No order, consent, approval, license, ------------------------ authorization or validation of, or filing, recording or registration with (except as have been obtained or made prior to the date hereof), or exemption by, the Borrower is required to authorize, or is required in connection with, (i) the execution, delivery and performance of any Credit Document by the Borrower, or (ii) the legality, validity, binding effect or enforceability of any such Credit Document. 5.5 Financial Statements; Financial Conditions: Undisclosed ------------------------------------------------------- Liabilities; etc. - ----------------- (a) The statements of financial condition of the Borrower at June 30, 1998, and the related statements of income and retained earnings and changes in financial position of the Borrower for the 6-month period ended on such date, heretofore furnished to the Lender, present fairly the financial condition of the Borrower at the date of such statements. All such statements have been prepared in accordance with generally accepted accounting principles and practices consistently applied, subject to normal year end audit adjustments. Since June 30, -10- 1998, there has been no material adverse change in the business, operations, property, assets, condition (financial or otherwise) or prospects of the Borrower. (b) Except as fully reflected in the financial statements delivered pursuant to subsection (a) above, there were as of the date hereof no liabilities or obligations with respect to the Borrower of any nature whatsoever (whether absolute, accrued, contingent or otherwise and whether or not due) which, either individually or in the aggregate, would be material to the Borrower. As of the date hereof, the Borrower does not know of any basis for the assertion against the Borrower of any liability or obligation of any nature whatsoever that is not fully reflected in the financial statements delivered pursuant to subsection (a) above which, either individually or in the aggregate, could be material to the Borrower. 5.6 Litigation. There are no actions, suits or proceedings pending ---------- or, to the best knowledge of the Borrower, threatened (i) with respect to any Credit Document or (ii) that are reasonably likely to have a Material Adverse Effect on the Borrower, other than as disclosed in the Borrower's most recent reports in Forms 10-K and 10-Q filed with the SEC. 5.7 True and Complete Disclosure. All factual information (taken ---------------------------- as a whole) heretofore or contemporaneously furnished by or on behalf of the Borrower to the Lender for purposes of or in connection with this Agreement or any transaction contemplated herein is, and all other such factual information (taken as a whole) hereafter furnished by or on behalf of the Borrower in writing to the Lender or made in public filings with the SEC shall be, true and accurate in all material respects on the date as of which such information is dated or certified and not incomplete by omitting to state any fact necessary to make such information (taken as a whole) not misleading at such time in light of the circumstances under which such information was provided. 5.8 Use of Proceeds, Margin Regulations. All of the proceeds of the ----------------------------------- Loan will be used by the Borrower for general working capital purposes. No part of the proceeds of the Loan shall be used by the Borrower to purchase or carry any margin stock or to extend credit to others for the purpose of purchasing or carrying any margin stock. Neither the making of the Loan nor the use of the proceeds thereof shall violate or be inconsistent with the provisions of Regulations T, U or X of the Board of Governors of the Federal Reserve System. 5.9 Tax Returns and Payments. The Borrower has filed all tax returns ------------------------ required to be filed by the Borrower and has paid all income taxes payable by the Borrower which have become due pursuant to such tax returns and all other taxes and assessments payable by the Borrower which have become due, other than those not yet delinquent and except for those contested in good faith and by appropriate proceedings diligently pursued and for which adequate reserves have been established. The Borrower has paid all federal and local income taxes applicable to the Borrower for all prior years and for the current year to the date hereof. 5.10 Compliance with Laws. The Borrower is in compliance with all -------------------- applicable statutes, regulations and orders of, and all applicable restrictions imposed by, all governmental agencies, authorities and instrumentalities, domestic or foreign, in respect of the conduct of its business and the ownership of its property (including applicable statutes, regulations, orders and restrictions relating to environmental standards and controls), except such noncompliance as would not, in the aggregate, have a Material Adverse Effect on the Borrower. -11- 5.11 Title to Properties. The Borrower has good and marketable title ------------------- to all material properties owned by it, including all properties reflected in the financial statements referred to in Section 5.5(a) (except as sold or otherwise disposed of since the date of such financial statements in the ordinary course of business or as otherwise disclosed to the Lender). 5.12 Fees and Enforcement. No fees or taxes, including, without -------------------- limitation, stamp, transaction, registration or similar taxes, are required to be paid for the legality, validity, or enforceability of this Agreement or any of the other Credit Documents. Section 6. Affirmative Covenants. --------------------- On and after the Effective Date and until the Loan and the Note, together with interest and all other Obligations incurred hereunder and thereunder, are paid in full, the Borrower consents and agrees that, unless otherwise consented to in writing by the Lender: 6.1 Information Covenants. The Borrower will furnish, or cause to be --------------------- furnished, to the Lender: (a) As soon as available, but in any event within 45 days after the close of each quarterly accounting period in each fiscal year of the Borrower, the statement of financial condition of the Borrower as at the end of such quarterly period and the related statements of income retained earnings and statement of cash flow for such quarterly annual period and for the elapsed portion of the fiscal year ended with the last day of such quarterly annual period, in each case setting forth comparative figures for the related periods in the prior fiscal year, all of which shall be certified by the chief financial officer of the Borrower, subject to normal year-end audit adjustments. (b) As soon as available, but in any event within 90 days after the close of each fiscal year of the Borrower, the statement of financial condition of the Borrower as at the end of such fiscal year and the related statements of income retained earnings and statement of cash flow for such fiscal year, in each case setting forth comparative figures for the prior fiscal year, all of which shall be reviewed by independent certified accountants reasonably acceptable to the Lender. (c) At the time of the delivery of the financial statements provided for in Section 7.1(a) or (b), a certificate from the Borrower to the effect that, to the best of the Borrower's knowledge, no Default or Event of Default has occurred and is continuing or, if any Default or Event of Default has occurred and is continuing, specifying the nature and extent thereof. (d) Promptly, and in any event within three Business Days after the Borrower obtains knowledge thereof, notice of (i) the occurrence of any event which constitutes a Default or Event of Default, (ii) any litigation or governmental proceeding pending (x) against the Borrower which is reasonably likely to have a Material Adverse Effect on the Borrower or (y) with respect to any Credit Document and (iii) any other event which is reasonably likely to have a Material Adverse Effect on the Borrower. (e) From time to time, such other information or documents (financial or otherwise) as the Lender may reasonably request. -12- 6.2 Books and Records. The Borrower will keep proper books of record ----------------- and account in which full, true and correct entries, in conformity with applicable law and in conformity with generally accepted accounting principles, will be made of all business dealings and transactions in relation to the Borrower's financial activities. The Borrower will, and will cause its agents and representatives to permit officers and designated representatives or agents of the Lender to visit and inspect at all reasonable times and to such reasonable extent as the Lender may request, any of the Borrower's assets and properties, and to examine the books of record and account of the Borrower and to discuss the affairs, finances and accounts of the Borrower with, and be advised as to the same by, the officers, representatives and agents of the Borrower; such visits, inspections and examinations to occur not more than four times annually so long as no Event of Default exists. 6.3 Maintenance of Properties and Insurance. The Borrower will keep --------------------------------------- all of its properties and assets in good and working order and condition and maintain with financially sound and reputable insurance companies insurance on such properties and assets in such amounts and against such risks as Persons similarly situated generally maintain in effect (including, without limitation, insurance with respect to environmental hazards) and furnish to the Lender, upon written request, full information as to the insurance carried. 6.4 Franchises. The Borrower will do, or cause to be done, all ---------- things necessary to preserve and keep in full force and effect its existence and its material rights, franchises and licenses. 6.5 Compliance with Law. The Borrower will comply with all ------------------- provisions of law applicable to the Borrower and its properties, assets or business, except where such non-compliance would not have a Material Adverse Effect. 6.6 Taxes. The Borrower will pay when due all of its taxes, except ----- as contested in good faith and by appropriate proceedings diligently pursued and for which adequate reserves have been established. 6.7 Use of Proceeds. The Borrower will use the proceeds as --------------- contemplated in Section 5.8 hereof. 6.8 Further Assurances. ------------------ (a) The Borrower will, at its own expense, (i) make, execute, endorse, acknowledge, file and/or deliver to the Lender from time to time such vouchers, invoices, schedules, confirmatory assignments, conveyances, financing statements, transfer endorsements, powers of attorney, certificates, reports and other assurances or instruments and (ii) take or cause to be taken such further actions and steps relating to the filing and prosecution of applications with governmental agencies for registration or recording (including, if necessary or requested, the modification, refiling and prosecution of such applications) and the other agreements, covenants and transactions provided for or contemplated herein, in any such case as the Lender may reasonably require. (b) The Borrower will (i) make, execute, endorse, acknowledge, file with and/or deliver, or cause to be made, executed, endorsed, acknowledged, filed and/or delivered, to the Lender from time to time such documents, instruments and opinions, and (ii) take such further steps relating to the syndication and/or transfer of all or any portion of the Loan -13- as the Lender may reasonably require. Without limiting the generality of the foregoing, the Borrower will promptly execute and deliver such additional substitute Notes as the Lender may reasonably require. Section 7. Negative Covenants. ------------------ On and after the date hereof and until the Loan and the Note, together with interest and all other Obligations incurred hereunder and thereunder, are paid in full, the Borrower covenants and agrees that, without the prior written agreement of the Lender: 7.1 Consolidation, Merger Sale of Assets, Etc. The Borrower will ----------------------------------------- not wind up, liquidate or dissolve its affairs or enter into any transaction of merger or consolidation, or convey, sell, lease or otherwise dispose of, (or agree to do any of the foregoing at any future time) all or any material part of its property or assets, other than sales of inventory made in the ordinary course of business. 7.2 Indebtedness. The Borrower will not contract, create, incur, ------------ assume or suffer to exist any Indebtedness, except: (i) accrued expenses and current trade accounts payable incurred in the ordinary course of business; (ii) Indebtedness under this Agreement; (iii) Indebtedness existing on the date hereof and described in the financial statements delivered pursuant to Section 5.5; (iv) other Indebtedness not in excess of $100,000 in the aggregate; and (v) Indebtedness under the Replacement Debentures. 7.3 Liens. The Borrower will not create, incur, assume or suffer ----- to exist any Lien upon or with respect to any property or assets (real or personal, tangible or intangible) of the Borrower, whether now owned or hereafter acquired, provided that the provisions of this subsection shall not prevent the creation, incurrence, assumption or existence of the following Liens (the "Permitted Liens"): (i) Liens for taxes not yet due, or Liens for taxes --------------- being contested in good faith and by appropriate proceedings for which adequate reserves have been established; (ii) Liens in respect of property or assets of the Borrower imposed by law, which were incurred in the ordinary course of business, such as carriers, warehousemen's and mechanic's liens and other similar Liens arising in the ordinary course of business and (x) which do not in the aggregate materially detract from the value of such property or assets or materially impair the use thereof or (y) which are being contested in good faith by appropriate proceedings, which proceedings have the effect of preventing the forfeiture or sale of the property or assets subject to any such Lien; and (iii) Liens in existence on the date hereof and described in the financial statements delivered pursuant to Section 5.5 or in Annex A to the Security Agreement. 7.4 Advances, Investments and Loans. The Borrower will not lend ------------------------------- money or credit or make advances to any Person, or purchase or acquire any stock, obligations or securities of, or any other interest in, or make any capital contribution to, any other Person, except that the Borrower may own bank accounts and hold receivables owing to the Borrower if created or acquired in the ordinary course of business and payable or dischargeable in accordance with customary trade terms. 7.5 Affiliate Transactions. The Borrower will not enter into any ---------------------- transaction or series of related transactions, whether or not in the ordinary course of business, with any Affiliate of the Borrower other than on terms and conditions as favorable to the Borrower as -14- would be obtainable by the Borrower at the time in a comparable arm's-length transaction with a Person other than an Affiliate. 7.6 Business. The Borrower will not engage (directly or indirectly) -------- in any business which is substantially different than the business in which it is engaged on the date hereof. 7.7 Dividends. The Borrower will not declare or pay any dividends, --------- or return any capital to, its shareholders or authorize or make any other distribution, payment or delivery of property or cash to its shareholders as such, or redeem, retire, purchase or otherwise acquire, directly or indirectly, for a consideration, any shares of any class of its capital stock now or hereafter outstanding (or any options or warrants issued by the Borrower with respect to its capital stock), or set aside any funds for any of the foregoing purposes, in each case without the written consent of the Lender, which will not be unreasonably withheld; or except in accordance with the terms of the Series B Preferred Stock and Series C Preferred Stock. 7.8 Limitation on Voluntary Payments and Modifications of ----------------------------------------------------- Indebtedness. Other than as permitted hereunder and under the other Credit - ------------ Documents, the Borrower will not (i) make any voluntary or optional payment or prepayment on or redemption or acquisition for value of (including, without limitation, by way of depositing with the trustee with respect thereto money or securities before due for the purpose of paying when due) any Indebtedness or (ii) amend or modify, or permit the amendment or modification of, any provision of any Indebtedness or of any agreement (including, without limitation, any purchase agreement, indenture, loan agreement or security agreement) relating to any of the foregoing; provided, however, that the Borrower may amend or modify, or permit the amendment or modification of any of the agreements described in this clause (ii) if such amendment or modification (x) does not (a) change the maturity or accelerate any payment of principal or interest (through any modification of any existing or the inclusion o any additional mandatory prepayments or otherwise), (b) increase the principal owed, (c) increase the rate of interest or (d) provide for any additional fees or indemnities relating to any Indebtedness and (y) does not adversely affect the rights and remedies of the Lender hereunder or the ability of the Borrower to perform its obligations hereunder. Section 8. Events of Default. ----------------- Upon the occurrence of any of the following specified events (each an "Event of Default"): ---------------- 8.1 Payments. The Borrower shall (i) default in the payment when -------- due of any principal of any Loan or the Note, or (ii) default, and such default shall continue unremedied for ten (10) or more Business Days, in the payment when due of interest on any Loan or the Note or any other amounts owing hereunder or under the Note; or 8.2 Representations, etc. Any representation, warranty or -------------------- statement made by the Borrower in any Credit Document or in any certificate delivered pursuant to any Credit Document shall prove to be untrue in any material respect on the date as of which made or deemed made; or -15- 8.3 Borrower's Covenants. The Borrower shall (i) default in the -------------------- due performance or observance by them of any term, covenant or agreement contained in Section 6.1(d), 6.7, 6.8 or 7 or (ii) default in the due performance or observance of any term, covenant or agreement (other than those referred to in Sections 8.1 and 8.2 and clause (i) of this Section 8.3) contained in this Agreement and such default shall continue unremedied for a period of twenty (20) days; or 8.4 Default Under Other Agreements. The Borrower shall (i) ------------------------------ default in any payment of any Indebtedness (other than the Note) beyond the period of grace, if any, provided in the instrument or agreement under which any such Indebtedness was created or (ii) default in the observance or performance of any agreement or condition relating to any Indebtedness (other than the Note), or contained in any instrument or agreement evidencing, securing or relating thereto to any Indebtedness, or any other event shall occur or condition exist, the effect of which default or other event or condition is to cause, or to permit the holder or holders of such Indebtedness (or a trustee or agent on behalf of such holder or holders) to cause (determined without regard to whether any notice is required), any such Indebtedness to become due prior to its stated maturity; or any Indebtedness of the Borrower shall be declared to be due and payable, or required to be prepaid other than by a regularly scheduled required prepayment, prior to the stated maturity thereof; or 8.5 Bankruptcy, etc. The Borrower shall commence a voluntary --------------- case concerning such Person under Title 11 of the United States Code entitled "Bankruptcy," as now or hereafter in effect, or any successor thereto (the "Bankruptcy Code"); or an involuntary case is commenced against the Borrower, --------------- and the petition is not controverted within 10 days, or is not dismissed within 60 days, after commencement of the case; or a custodian (as defined in the Bankruptcy Code) is appointed for, or takes charge of, all or substantially all of the property of the Borrower, or the Borrower commences any other proceeding under any reorganization, arrangement, adjustment of debt, relief of debtors, dissolution, insolvency or liquidation or similar law of any jurisdiction whether now or hereafter in effect relating to the Borrower, or there is commenced against the Borrower, any such proceeding which remains undismissed for a period of 60 days, or the Borrower is adjudicated insolvent or bankrupt; or any order of relief or other order approving any such case or proceeding is entered; or the Borrower suffers any appointment of any custodian or the like for the Borrower or any substantial part of its property to continue undischarged or unstayed for a period of 60 days; or the Borrower makes a general assignment for the benefit of creditors; or any personal, corporate or partnership action, as the case may be, is taken by the Borrower for the purpose of effecting any of the foregoing; or 8.6 Judgments. One or more judgments or decrees shall be entered --------- against the Borrower involving in the aggregate a liability (not paid or fully covered by insurance) of $200,000 or more, and all such judgments or decrees shall not have been vacated, discharged or stayed or bonded pending appeal within 60 days after the entry thereof; or 8.7 Cancellation of Payment Obligation. Any dominant authority ---------------------------------- asserting or exercising de jure or de facto governmental or police powers in New York shall, by moratorium laws or otherwise, cancel, suspend or defer the obligation of the Borrower to pay any amount required to be paid hereunder or under the Notes, or the obligations of the Borrower under any other Credit Document; or -16- 8.8 Security Assignment. The Security Assignment or any provision ------------------- thereof shall cease to be in full force and effect, or shall cease to give the Lender the Liens, rights, powers and privileges purported to be created thereby, or the Borrower shall default in the due performance or observance of any term, covenant or agreement on its part to be performed or observed pursuant to the Security Assignment; or 8.9 Security Agreement. The Security Agreement or any provision ------------------ thereof shall cease to be in full force and effect, or shall cease to give the Lender the Liens, rights, powers and privileges purported to be created thereby, or the Borrower shall default in the due performance or observance of any term, covenant or agreement on its part to be performed or observed pursuant to the Security Agreement; or 8.10 Governmental Action. Any government agency shall have ------------------- condemned, nationalized, seized, or otherwise expropriated all or any substantial part of the property or other assets of the Borrower; or shall have assumed custody or control of such property or such other assets of the business or operations of the Borrower; or shall have taken any action for the dissolution or disestablishment of the Borrower or any action that would prevent the Borrower from carrying on its business or a substantial part thereof; or 8.11 Material Adverse Changes. The Lender shall determine, in ------------------------ its reasonable discretion, that any material adverse change shall have occurred in the operations, business, property, assets, condition (financial or otherwise), earnings or prospects of the Borrower; then, and in any such event, and at any time thereafter, if any Event of Default shall then be continuing, the Lender may by written notice to the Borrower, take any or all of the following actions, without prejudice to the rights of the Lender or the holder of the Note to enforce its claims against the Borrower (provided, that, if an Event of Default specified in Section 9.5 shall occur, the result which would occur upon the giving of written notice by the Lender to the Borrower as specified in clause (ii) below shall occur automatically without the giving of any such notice): (i) declare the principal of and any accrued interest in respect of the Loan and the Note and all obligations owing hereunder and thereunder to be, whereupon the same shall become, forthwith due and payable without presentment, demand, protest or other notice of any kind, all of which are hereby waived by the Borrower; and (ii) exercise any other rights available under the Credit Documents or other documents or instruments entered into in connection therewith; or 8.12 Stockholders Vote. Provided that Infinity continues as a ----------------- Lender hereunder, within 120 days of the effective date of the Exchange Agreement, the Borrower's stockholders shall fail to approve of the Borrower's issuance of its common stock to Infinity, Glacier Capital Limited and Infinity Emerging Opportunities Limited, in an amount exceeding 20% of the issued and outstanding common stock of the Borrower as of the Effective Date. Section 9. Miscellaneous. ------------- 9.1 Payment of Expenses, etc. The Borrower hereby agrees to (i) ------------------------ whether or not the transactions herein contemplated are consummated, pay all reasonable out-of-pocket costs and expenses (x) of the Lender (including, without limitation, the reasonable fees and disbursements of counsel to the Lender) in connection with the preparation, execution and delivery of this Agreement and the other Credit Documents and the documents and instruments -17- referred to herein and therein and any amendment, waiver or consent relating hereto or thereto in an amount equivalent to U.S.$50,000, which amount shall be paid from the Loan proceeds on the Effective Date, and (y) of the Lender in connection with the enforcement of this Agreement and the other Credit Documents and the documents and instruments referred to herein and therein (including, without limitation, the reasonable fees and disbursements of counsel for the Lender); (ii) pay and hold the Lender harmless from and against any and all present and future stamp and other similar taxes with respect to the foregoing matters and save the Lender harmless from and against any and all liabilities with respect to or resulting from any delay or omission (other than to the extent attributable to such Lender) to pay such taxes; and (iii) indemnify the Lender, its officers, directors, employees, representatives and agents from and hold each of them harmless against any and all liabilities, obligations, losses, damages, penalties, claims, actions, judgments, suits, costs, expenses and disbursements incurred by any of them as a result of, or arising out of, or in any way related to, or by reason of, any investigation, litigation or other proceeding (whether or not the Lender is a party thereto) related to the entering into and/or performance of this Agreement or any other Credit Document or the use of the proceeds of any Loan hereunder or the consummation of any transactions contemplated herein or in any other Credit Document, including, without limitation, the reasonable fees and disbursements of counsel incurred in connection with any such investigation, litigation or other proceeding (but excluding any such liabilities, obligations, losses, etc., to the extent incurred by reason of the gross negligence or willful misconduct of the Person to be indemnified). 9.2 Right of Setoff. In addition to any rights now or hereafter --------------- granted under applicable law or otherwise, and not by way of limitation of any such rights, upon the occurrence of an Event of Default, the Lender is hereby authorized at any time or from time to time, without presentment, demand, protest or other notice of any kind to Borrower or to any other Person, any such notice being hereby expressly waived, to set off and to appropriate and apply any and all deposits (general or special) and any other Indebtedness at any time held or owing by the Lender (including without limitation by branches and agencies of the Lender wherever located) to or for the credit or the account of the Borrower or any other Credit Party against and on account of the Obligations and all other claims of any nature or description arising out of or connected with this Agreement or any other Credit Document, irrespective of whether or not the Lender shall have made any demand hereunder and although said Obligations, liabilities or claims, or any of them, shall be contingent or unmatured. 9.3 Notices. Except as otherwise expressly provided herein, all ------- notices and other communications provided for hereunder shall be in writing (including telegraphic, telex, telecopier or cable communication) and mailed, telegraphed, telexed, telecopied, cabled or delivered: If to Borrower, to: YES! Entertainment Corporation 3875 Hopyard Road, Suite 375 Pleasanton, California 94588 Attention: Mark C. Shepherd -18- With a copy to: Cooley Godward LLP Five Palo Alto Square 3000 El Camino Real Palo Alto, California 94306 Attention: Martin L. Lagod If to the Lender: Infinity Investors Limited Hunkins Waterfront Plaza Main Street, PO Box 556 Charleston, Nevis West Indies Attention: ------------------------- With copies to: HW Finance LLC 1601 Elm Street, Suite 4000 Dallas, Texas 75201 Attention: Stuart J. Chasanoff ; and White & Case LLP 200 South Biscayne Boulevard, Suite 5000 Miami, Florida 33131 Attention: Thomas E Lauria; or, as to any party, at such other address as shall be designated by such party in a written notice to the other parties hereto. All such notices and communications shall, when mailed, telegraphed, telexed, telecopied, or cabled or sent by overnight courier, be effective when deposited in the mails, delivered to the telegraph company, cable company or overnight courier, as the case may be, or sent by telex or telecopier, except that notices and communications to the Lender shall not be effective until received by the Lender. 9.4 Benefit of Agreement. This Agreement shall be binding upon -------------------- and inure to the benefit of and be enforceable by the respective successors and assigns of the parties hereto; provided that the Borrower may not assign or transfer any of its rights or obligations hereunder without the prior written consent of the Lender. The Lender may at any time (i) grant participations in or (ii) transfer or assign any of its rights hereunder or under the Note. If the Lender transfers or assigns all or a part of its rights hereunder or under the Note to any other Person, any reference to the Lender in this Agreement or the Note shall thereafter refer to the Lender and to such other Person to the extent of its interests. 9.5 No Waiver; Remedies Cumulative. No failure or delay on the ------------------------------ part of the Lender or the holder of the Note in exercising any right, power or privilege hereunder or under any other Credit Document and no course of dealing between the Borrower and the Lender or the holder of the Note shall operate as a waiver thereof; nor shall any single or partial exercise of any right, power or privilege hereunder or under any other Credit Document preclude any other or further exercise thereof or the exercise of any other right, power or privilege hereunder or -19- thereunder. The rights, powers and remedies herein or in any other Credit Document expressly provided are cumulative and not exclusive of any rights, powers or remedies which the Lender or the holder of the Note would otherwise have. No notice to or demand on the Borrower in any case shall entitle the Borrower to any other or further notice or demand in similar or other circumstances or constitute a waiver of the rights of the Lender or the holder of the Note to any other or further action in any circumstances without notice or demand. 9.6 Calculations; Computations. -------------------------- (a) The financial statements to be furnished to the Lender pursuant hereto shall be made and prepared in accordance with generally accepted accounting principles in effect from time to time in the United States consistently applied throughout periods involved. (b) All computations of interest hereunder shall be made on the basis of a year of 360 days for the actual number of days (including the first day but excluding the last day) occurring in the period for which such interest is payable. 9.7 Governing Law; Submission to Jurisdiction; Venue. ------------------------------------------------ (a) This Agreement and the other Credit Documents and the rights and obligations of the parties hereunder and thereunder shall be construed in accordance with and be governed by the law of the State of New York. Any legal action or proceeding against the Borrower with respect to this Agreement or any other Credit Document may be brought in the courts of the State of New York or of the United States District Court for the Southern District of New York, and, by execution and delivery of this Agreement, the Borrower hereby irrevocably accepts for itself and in respect of its property, generally and unconditionally, the jurisdiction of the aforesaid courts. The Borrower hereby irrevocably designates CT Corporation System as its designee, appointee and agent to receive, accept and acknowledge for and on its behalf, and in respect of its property, service of any and all legal process, summons, notices and documents which may be served in any such action or proceeding. The Borrower further irrevocably consents to the service of process out of any of the aforementioned courts in any such action or proceeding by the mailing of copies thereof by registered or certified mail, postage prepaid, to the Borrower at such Person's address set forth opposite such Person's signature below, such service to become effective 30 days after such mailing. Nothing herein shall affect the right of the Lender or the holder of the Note to serve process in any other manner permitted by law or to commence legal proceedings or otherwise proceed against the Borrower in any other jurisdiction. (b) The Borrower hereby irrevocably waives any objection which it may now or hereafter have to the laying of venue of any of the aforesaid actions or proceedings arising out of or in connection with this Agreement or any other Credit Document brought in the courts referred to in clause (a) above and hereby further irrevocably waives and agrees not to plead or claim in any such court that any such action or proceeding brought in any such court has been brought in an inconvenient forum. 9.8 Counterparts. This Agreement may be executed in any number ------------ of counterparts and by the different parties hereto on separate counterparts, each of which when so executed and delivered shall be an original, but all of which shall together constitute one and the same instrument. -20- 9.9 Headings Descriptive. The headings of the several sections -------------------- and subsections of this Agreement are inserted for convenience only and shall not in any way affect the meaning or construction of any provision of this Agreement. 9.10 Amendment or Waiver. Neither this Agreement nor any other ------------------- Credit Document nor any terms hereof or thereof may be changed, waived, discharged or terminated unless such change, waiver, discharge or termination is in writing signed by the Lender and the Borrower. 9.11 Survival. All indemnities set forth herein shall survive -------- the execution and delivery of this Agreement and the Note and the making and repayment of the Obligations. 9.12 Waiver of Trial by Jury. THE BORROWER AND THE LENDER HEREBY ----------------------- IRREVOCABLY WAIVE ALL RIGHT TO TRIAL BY JURY IN ANY ACTION, PROCEEDING OR COUNTERCLAIM ARISING OUT OF OR RELATING TO ANY OBLIGATION UNDER THIS AGREEMENT OR ANY OTHER CREDIT DOCUMENT. -21- IN WITNESS WHEREOF, the parties hereto have executed and delivered this Agreement on the date first above written. BORROWER: YES! ENTERTAINMENT CORPORATION By: --------------------------------------- Title: ------------------------------------ LENDER: INFINITY INVESTORS LIMITED By: --------------------------------------- Title: ------------------------------------ -22- EX-10.3 3 SECURITY AGREEMENT, DATED 09/02/98 EXHIBIT 10.3 SECURITY AGREEMENT SECURITY AGREEMENT, dated as of September 2, 1998, between YES! ENTERTAINMENT CORPORATION (the "Assignor") and INFINITY INVESTORS LIMITED (the "Assignee"). Unless otherwise defined herein, terms used herein and defined in the Credit Agreement shall be used herein as so defined. W I T N E S S E T H : - - - - - - - - - - WHEREAS, the Assignor desires to incur Loans under the Credit Agreement; WHEREAS, it is a condition precedent to the incurrence of Loans under the Credit Agreement that the Assignor shall have executed and delivered to the Assignee this Agreement; and WHEREAS, the Assignor desires to execute this Agreement to satisfy the condition described in the preceding paragraph; NOW, THEREFORE, in consideration of the benefits to the Assignor, the receipt and sufficiency of which are hereby acknowledged, the Assignor hereby makes the following representations and warranties to the Assignee and hereby covenants and agrees with the Assignee as follows: SECTION 1. SECURITY INTERESTS ------------------ 1.1. Grant of Security Interests. (a) As security for the prompt --------------------------- and complete payment and performance when due of all of its Obligations (all capitalized terms used herein and defined in Section 9.1 shall be used herein as so defined), the Assignor does hereby sell, assign and transfer unto the Assignee, and does hereby grant to the Assignee a continuing security interest of first priority in, all of the right, title and interest of the Assignor in, to and under all of the following, whether now existing or hereafter from time to time acquired: (i) each and every Receivable; (ii) all Contracts, together with all Contract Rights arising thereunder; (iii) all Inventory; (iv) all Equipment; (v) all Marks, together with the registrations and right to all renewals thereof, and the goodwill of the business of the Assignor symbolized by the Marks; (vi) all Patents and Copyrights; (vii) all computer programs of the Assignor and all intellectual property rights therein and all other proprietary information of the Assignor, including, but not limited to, trade secrets; (viii) all cash of the Assignor wherever held and in whatever form; (ix) all other Goods, General Intangibles, Chattel Paper, Documents and Instruments (other than Pledged Stock); and (x) all Proceeds and products of any and all of the foregoing (all of the above, collectively, the "Collateral"). (b) The security interest of the Assignee under this Agreement extends to all Collateral of the kind described in preceding clause (a) which the Assignor may acquire at any time during the continuation of this Agreement. 1.2. Power of Attorney. The Assignor hereby constitutes and appoints ----------------- the Assignee its true and lawful attorney, irrevocably, with full power after the occurrence of an Event of Default (in the name of the Assignor or otherwise) to act, require, demand, receive, compound and give acquittance for any and all monies and claims for monies due or to become due to the Assignor under or arising out of the Collateral, to endorse any checks or other instruments or orders in connection therewith and to file any claims or take any action or institute any proceedings which the Assignee may deem to be necessary or advisable in the premises, which appointment as attorney is coupled with an interest. SECTION 2. GENERAL REPRESENTATIONS, WARRANTIES AND COVENANTS ------------------------------------------------- The Assignor represents, warrants and covenants, which representations, warranties and covenants shall survive execution and delivery of this Agreement, as follows: 2.1. Necessary Filings. All filings, registrations and recordings ----------------- necessary or appropriate to create, preserve, protect and perfect the security interest granted by the Assignor to the Assignee hereby in respect of the Collateral have been accomplished and the security interest granted to the Assignee pursuant to this Agreement in and to the Collateral constitutes a valid and enforceable perfected security interest therein superior and prior to the rights of all other Persons therein and subject to no other Liens (except that the Collateral may be subject to Liens permitted under Section 7.3 of the Credit Agreement) and is entitled to all the rights, priorities and benefits afforded by the Uniform Commercial Code or other relevant law as enacted in any relevant jurisdiction to perfected security interests. 2.2. No Liens. The Assignor is, and as to Collateral acquired by it -------- from time to time after the date hereof the Assignor will be, the owner of all Collateral free from any Lien or other right, title or interest of any Person (other than Liens created hereby or permitted under Section 7.3 of the Credit Agreement), and the Assignor shall defend the Collateral against all claims and demands of all Persons at any time claiming the same or any interest therein adverse to the Assignee, except that the Collateral is subject to the lien of BNY under the Existing Facility to the extent and in the manner described therein. 2.3. Other Financing Statements. There is no financing statement (or -------------------------- similar statement or instrument of registration under the law of any jurisdiction) covering or purporting to cover any interest of any kind in the Collateral except as disclosed in Annex A and so long as the Total Commitment has not been terminated or any of the Obligations remain unpaid, the Assignor will not execute or authorize to be filed in any public office any financing statement (or similar statement or instrument of registration under the law of any jurisdiction) or statements relating to the Collateral, except financing statements filed or to be filed in respect of and covering the security interests granted hereby by the Assignor. 2.4. Chief Executive Office; Records. The chief executive office of ------------------------------- the Assignor is located at 3875 Hopyard Road, Suite 375, Pleasanton, California 94588. The Assignor will not move its chief executive office except to such new location as the Assignor may establish in accordance with the last sentence of this Section 2.4. The originals of all documents evidencing all Receivables and Contract Rights of the Assignor and the only original books of account and 2 records of the Assignor relating thereto are, and will continue to be, kept at such chief executive office or at the locations disclosed in Annex B, or at such new locations as the Assignor may establish in accordance with the last sentence of this Section 2.4. All Receivables and Contract Rights of the Assignor are, and will continue to be, maintained at, and controlled and directed (including, without limitation, for general accounting purposes) from, such office locations shown above, or such new locations as the Assignor may establish in accordance with the last sentence of this Section 2.4. The Assignor shall not establish a new location for such offices until (i) it shall have given to the Assignee not less than 45 days' prior written notice of its intention so to do, clearly describing such new location and providing such other information in connection therewith as the Assignee may reasonably request and (ii) with respect to such new location, it shall have taken all action, satisfactory to the Assignee, to maintain the security interest of the Assignee in the Collateral intended to be granted hereby at all times fully perfected and in full force and effect. 2.5. Location of Inventory and Equipment. (a) All Inventory and ----------------------------------- Equipment held on the date hereof by the Assignor is located at one of the locations shown on Annex C. The Assignor agrees that (i) all Inventory and Equipment now held or subsequently acquired by it shall be kept at (or shall be in transport to) any one of the locations shown on Annex C, or such new location as the Assignor may establish in accordance with the last sentence of this Section 2.5. The Assignor may establish a new location for Inventory and Equipment only if (i) it shall have given to the Assignee prior written notice of its intention so to do, clearly describing such new location and providing such other information in connection therewith as the Assignee may reasonably request and (ii) with respect to such new location, it shall have taken all action reasonably satisfactory to the Assignee to maintain the security interest of the Assignee in the Collateral intended to be granted hereby at all times fully perfected and in full force and effect. 2.6. Recourse. This Agreement is made with full recourse to the -------- Assignor and pursuant to and upon all the warranties, representations, covenants and agreements on the part of the Assignor contained herein, in the Credit Agreement and otherwise in writing in connection herewith or therewith. SECTION 3. SPECIAL PROVISIONS CONCERNING RECEIVABLES; CONTRACT --------------------------------------------------- RIGHTS; INSTRUMENTS - ------------------- 3.1. Additional Representations and Warranties. As of the time when ----------------------------------------- each of its Receivable arises, the Assignor shall be deemed to have represented and warranted that such Receivable, and all records, papers and documents relating thereto (if any) are genuine and in all respects what they purport to be, and that all papers and documents (if any) relating thereto (i) will represent the genuine, legal, valid and binding obligation of the account debtor evidencing indebtedness unpaid and owed by the respective account debtor arising out of the performance of labor or services or the sale or lease and delivery of the merchandise listed therein, or both, (ii) will be the only original writings evidencing and embodying such obligation of the account debtor named therein (other than copies created for general accounting purposes), (iii) will evidence true and valid obligations, enforceable in accordance with their respective terms and (iv) will be in compliance and will conform with all applicable federal, state and local laws and applicable laws of any relevant foreign jurisdiction. 3 3.2. Maintenance of Records. The Assignor will keep and maintain at ---------------------- its own cost and expense satisfactory and complete records of its Receivables and Contracts, including, but not limited to, the originals of all documentation (including each Contract) with respect thereto, records of all payments received, all credits granted thereon, all merchandise returned and all other dealings therewith, and the Assignor will make the same available to the Assignee for inspection, at the Assignor's own cost and expense, at any and all reasonable times upon demand. The Assignor shall, at its own cost and expense, deliver all tangible evidence of its Receivables and Contract Rights (including, without limitation, all documents evidencing the Receivables and all Contracts) and such books and records to the Assignee or to its representatives (copies of which evidence and books and records may be retained by the Assignor) at any time upon its reasonable demand. If the Assignee so directs, the Assignor shall legend, in form and manner reasonably satisfactory to the Assignee, the Receivables and Contracts, as well as books, records and documents of the Assignor evidencing or pertaining to the Receivables or Contracts with an appropriate reference to the fact that the Receivables and Contracts have been assigned to the Assignee and that the Assignee has a security interest therein. 3.3. Direction to Account Debtors; Contracting Parties; etc. Upon ------------------------------------------------------- the occurrence and during the continuation of an Event of Default and if the Assignee so directs, the Assignor agrees (i) to cause all payments on account of the Receivables and Contracts to be made directly to the Cash Collateral Account and (ii) that the Assignee may, at its option, directly notify the obligors with respect to any Receivables and/or under any Contracts to make payments with respect thereto as provided in preceding clause (i). Without notice to or assent by the Assignor, the Assignee may apply any or all amounts then in, or thereafter deposited in, the Cash Collateral Account in the manner provided in Section 7.4 of this Agreement. The costs and expenses (including attorneys' fees) of collection, whether incurred by the Assignor or the Assignee, shall be borne by the Assignor. 3.4. Modification of Terms; etc. The Assignor shall not rescind or --------------------------- cancel any indebtedness evidenced by any Receivable or under any Contract, or modify any term thereof or make any adjustment with respect thereto, or extend or renew the same, or compromise or settle any dispute, claim, suit or legal proceeding relating thereto, or sell any Receivable or Contract, or interest therein, without the prior written consent of the Assignee, except as permitted by Section 3.5. The Assignor will duly fulfill all obligations on its part to be fulfilled under or in connection with the Receivables and Contracts and will do nothing to impair the rights of the Assignee in the Receivables or Contracts. 3.5. Collection. The Assignor shall endeavor to cause to be ---------- collected from the account debtor named in each of its Receivables or obligor under any Contract, as and when due (including, without limitation, amounts which are delinquent, such amounts to be collected in accordance with generally accepted lawful collection procedures) any and all amounts owing under or on account of such Receivable or Contract, and apply forthwith upon receipt thereof all such amounts as are so collected to the outstanding balance of such Receivable or under such Contract, except that, prior to the occurrence of an Event of Default, the Assignor may allow in the ordinary course of business as adjustments to amounts owing under its Receivables and Contracts (i) an extension or renewal of the time or times of payment, or settlement for less than 4 the total unpaid balance, which the Assignor finds appropriate in accordance with sound business judgment and (ii) a refund or credit due as a result of returned or damaged merchandise or improperly performed services. The costs and expenses (including, without limitation, attorneys' fees) of collection, whether incurred by the Assignor or the Assignee, shall be borne by the Assignor. 3.6. Instruments. If the Assignor owns or acquires any Instrument, ----------- the Assignor will within 10 days notify the Assignee thereof, and upon request by the Assignee promptly deliver such Instrument to the Assignee appropriately endorsed to the order of the Assignee as further security hereunder. 3.7. Further Actions. The Assignor will, at its own expense, make, --------------- execute, endorse, acknowledge, file and/or deliver to the Assignee from time to time such vouchers, invoices, schedules, confirmatory assignments, conveyances, financing statements, transfer endorsements, powers of attorney, certificates, reports and other assurances or instruments and take such further steps relating to its Receivables, Contracts, Instruments and other property or rights covered by the security interest hereby granted, as the Assignee may reasonably require. SECTION 4. SPECIAL PROVISIONS CONCERNING TRADEMARKS ---------------------------------------- 4.1. Additional Representations and Warranties. The Assignor ----------------------------------------- represents and warrants that it is the true and lawful exclusive owner of the Marks listed in Annex D and that such listed Marks constitute all the marks registered in the United States Patent and Trademark Office that the Assignor now owns or uses in connection with its business. The Assignor represents and warrants that it owns or is licensed to use all Marks that it uses. The Assignor further warrants that it is aware of no third party claim that any aspect of the Assignor's present or contemplated business operations infringes or will infringe any Mark. 4.2. Licenses and Assignments. The Assignor hereby agrees not to ------------------------ divest itself of any right under a Mark material to its business absent prior written approval of the Assignee. 4.3. Infringements. The Assignor agrees, promptly upon learning ------------- thereof, to notify the Assignee in writing of the name and address of, and to furnish such pertinent information that may be available with respect to, any party who may be infringing or otherwise violating any of the Assignor's rights in and to any significant Mark, or with respect to any party claiming that the Assignor's use of any significant Mark violates any property right of that party. The Assignor further agrees, unless otherwise directed by the Assignee, diligently to prosecute any Person infringing any significant Mark. 4.4. Preservation of Marks. The Assignor agrees to use its --------------------- significant Marks in interstate commerce during the time in which this Agreement is in effect, sufficiently to preserve such Marks as trademarks or service marks registered under the laws of the United States. 4.5. Maintenance of Registration. The Assignor shall, at its own --------------------------- expense, diligently process all documents required by the Trademark Act of 1946, 15 U.S.C. (S)(S) 1051 et seq. to maintain trademark registration, including, but -- --- not limited to, affidavits of use and applications for renewals of registration in the United States Patent and Trademark Office for all 5 of its Marks pursuant to 15 U.S.C. (S)(S) 1058(a), 1059 and 1065, and shall pay all fees and disbursements in connection therewith, and shall not abandon any such filing of affidavit of use or any such application of renewal prior to the exhaustion of all administrative and judicial remedies without prior written consent of the Assignee. The Assignor agrees to notify the Assignee six months prior to the dates on which the affidavits of use or the applications for renewal registration are due that the affidavit of use or the renewal is being processed. 4.6. Future Registered Marks. If any mark registration issues ----------------------- hereafter to the Assignor as a result of any application now or hereafter pending before the United States Patent and Trademark Office, within 30 days of receipt of such certificate the Assignor shall deliver a copy of such certificate, and a grant of security in such mark, to the Assignee, confirming the grant thereof hereunder, the form of such confirmatory grant to be substantially the same as the form hereof. 4.7. Remedies. If an Event of Default shall occur and be continuing, -------- the Assignee may, by written notice to the Assignor, take any or all of the following actions: (i) declare the entire right, title and interest of the Assignor in and to each of the Marks, together with all trademark rights and rights of protection to the same, vested, in which event such rights, title and interest shall immediately vest, in the Assignee, in which case the Assignor agrees to execute an assignment in form and substance satisfactory to the Assignee of all its rights, title and interest in and to the Marks to the Assignee; (ii) take and use or sell the Marks and the goodwill of the Assignor's business symbolized by the Marks and the right to carry on the business and use the assets of the Assignor in connection with which the Marks have been used; and (iii) direct the Assignor to refrain, in which event the Assignor shall refrain, from using the Marks in any manner whatsoever, directly or indirectly, and, if requested by the Assignee, change the Assignor's corporate name to eliminate therefrom any use of any Mark and execute such other and further documents that the Assignee may request to further confirm this and to transfer ownership of the Marks and registrations and any pending trademark application in the United States Patent and Trademark Office to the Assignee. SECTION 5. SPECIAL PROVISIONS CONCERNING PATENTS AND COPYRIGHTS ---------------------------------------------------- 5.1. Additional Representations and Warranties. The Assignor ----------------------------------------- represents and warrants that it is the true and lawful exclusive owner of all rights in the Patents listed in Annex E and in the Copyrights listed in Annex F, that said Patents constitute all the U.S. patents and applications for U.S. patents that the Assignor now owns and that said Copyrights constitute all the U.S. copyrights that the Assignor now owns. The Assignor represents and warrants that it owns or is licensed to practice under all Patents and Copyrights that it now owns, uses or practices under. The Assignor further warrants that it is aware of no third party claim that any aspect of the Assignor's present or contemplated business operations infringes or will infringe any Patent or any Copyright. 5.2. Licenses and Assignments. The Assignor hereby agrees not to ------------------------ divest itself of any right under a Patent or Copyright absent prior written approval of the Assignee. 6 5.3. Infringements. The Assignor agrees, promptly upon learning ------------- thereof, to furnish the Assignee in writing with all pertinent information available to the Assignor with respect to any infringement or other violation of the Assignor's rights in any significant Patent or Copyright, or with respect to any claim that practice of any significant Patent or Copyright violates any property right of that party. The Assignor further agrees, absent direction of the Assignee to the contrary, diligently to prosecute any Person infringing any significant Patent or Copyright. 5.4. Maintenance of Patents. At its own expense, the Assignor shall ---------------------- make timely payment of all post-issuance fees required pursuant to 35 U.S.C. (S) 41 to maintain in force rights under each Patent. 5.5. Prosecution of Patent Application. At its own expense, the --------------------------------- Assignor shall diligently prosecute all applications for U.S. patents listed on Annex E, and shall not abandon any such application prior to exhaustion of all administrative and judicial remedies, absent written consent of the Assignee. 5.6. Other Patents and Copyrights. Within 30 days of acquisition of ---------------------------- a U.S. Patent or Copyright, or of filing of an application for a U.S. Patent or Copyright, the Assignor shall deliver to the Assignee a copy of such Patent or Copyright, as the case may be, with a grant of security as to such Patent or Copyright, as the case may be, confirming the grant thereof hereunder, the form of such confirmatory grant to be substantially the same as the form hereof. 5.7. Remedies. If an Event of Default shall occur and be continuing, -------- the Assignee may, by written notice to the Assignor, take any or all of the following actions: (i) declare the entire right, title and interest of the Assignor in each of the Patents and Copyrights vested, in which event such right, title and interest shall immediately vest in the Assignee, in which case the Assignor agrees to execute an assignment in form and substance satisfactory to the Assignee of all its right, title and interest to such Patents and Copyrights to the Assignee; (ii) take and practice or sell the Patents and Copyrights; (iii) direct the Assignor to refrain, in which event the Assignor shall refrain, from practicing the Patents and Copyrights directly or indirectly, and the Assignor shall execute such other and further documents as the Assignee may request further to confirm this and to transfer ownership of the Patents and Copyrights to the Assignee. SECTION 6. PROVISIONS CONCERNING ALL COLLATERAL ------------------------------------ 6.1. Protection of Assignee's Security. The Assignor will do nothing --------------------------------- to impair the rights of the Assignee in the Collateral. The Assignor will at all times keep its Inventory and Equipment insured in favor of the Assignee, at its own expense, to the Assignee's reasonable satisfaction against fire, theft and all other risks to which such Collateral may be subject; all policies or certificates with respect to such insurance shall be endorsed to the Assignee's satisfaction for the benefit of the Assignee (including, without limitation, by naming the Assignee as loss payee) and deposited with the Assignee. If the Assignor shall fail to insure such Inventory and Equipment to the Assignee's reasonable satisfaction, or if the Assignor shall fail to so endorse and deposit all policies or certificates with respect thereto, the Assignee shall have the right (but shall be under no obligation) to procure such insurance and the Assignor 7 agrees to reimburse the Assignee for all costs and expenses of procuring such insurance. The Assignee may apply any proceeds of such insurance when received by it toward the payment of any of the Obligations to the extent the same shall then be due. The Assignor assumes all liability and responsibility in connection with the Collateral acquired by it and the liability of the Assignor to pay its Obligations shall in no way be affected or diminished by reason of the fact that such Collateral may be lost, destroyed, stolen, damaged or for any reason whatsoever unavailable to the Assignor. 6.2. Warehouse Receipts Non-negotiable. The Assignor agrees that if --------------------------------- any warehouse receipt or receipt in the nature of a warehouse receipt is issued with respect to any of its Inventory, such warehouse receipt or receipt in the nature thereof shall not be "negotiable" (as such term is used in Section 7-104 of the Uniform Commercial Code as in effect in any relevant jurisdiction or under other relevant law). 6.3. Further Actions. The Assignor will, at its own expense, make, --------------- execute, endorse, acknowledge, file and/or deliver to the Assignee from time to time such lists, descriptions and designations of its Collateral, warehouse receipts, receipts in the nature of warehouse receipts, bills of lading, documents of title, vouchers, invoices, schedules, confirmatory assignments, conveyances, financing statements, transfer endorsements, powers of attorney, certificates, reports and other assurances or instruments and take such further steps relating to the Collateral and other property or rights covered by the security interest hereby granted, which the Assignee deems reasonably appropriate or advisable to perfect, preserve or protect its security interest in the Collateral. 6.4. Financing Statements. The Assignor agrees to assign and deliver -------------------- to the Assignee such financing statements, in form acceptable to the Assignee, as the Assignee may from time to time reasonably request or as are necessary or desirable in the reasonable opinion of the Assignee to establish and maintain a valid, enforceable, first priority security interest in the Collateral as provided herein and the other rights and security contemplated herein, all in accordance with the Uniform Commercial Code as enacted in any and all relevant jurisdictions or any other relevant law. The Assignor will pay any applicable filing fees and related expenses. The Assignor authorizes the Assignee to file any such financing statements without the signature of the Assignor. SECTION 7. REMEDIES UPON OCCURRENCE OF EVENT OF DEFAULT -------------------------------------------- 7.1. Remedies; Obtaining the Collateral Upon Default. The Assignor ----------------------------------------------- agrees that, if any Event of Default shall have occurred and be continuing, then and in every such case, subject to any mandatory requirements of applicable law then in effect, the Assignee, in addition to any rights now or hereafter existing under applicable law, shall have all rights as a secured creditor under the Uniform Commercial Code in all relevant jurisdictions and may: (a) personally, or by agents or attorneys, immediately retake possession of the Collateral or any part thereof, from the Assignor or any other Person who then has possession of any part thereof with or without notice or process of law, and for that purpose may enter upon the Assignor's premises where any of the Collateral is located 8 and remove the same and use in connection with such removal any and all services, supplies, aids and other facilities of the Assignor; and (b) instruct the obligor or obligors on any agreement, instrument or other obligation (including, without limitation, the Receivables) constituting the Collateral to make any payment required by the terms of such instrument or agreement directly to the Assignee; and (c) withdraw all monies, securities and instruments in the Cash Collateral Account for application to the Obligations; and (d) sell, assign or otherwise liquidate, or direct the Assignor to sell, assign or otherwise liquidate, any or all of the Collateral or any part thereof, and take possession of the proceeds of any such sale or liquidation; and (e) take possession of the Collateral or any part thereof, by directing the Assignor in writing to deliver the same to the Assignee at any place or places designated by the Assignee, in which event the Assignor shall at its own expense: (i) forthwith cause the same to be moved to the place or places so designated by the Assignee and there delivered to the Assignee, (ii) store and keep any Collateral so delivered to the Assignee at such place or places pending further action by the Assignee as provided in Section 7.2, and (iii) while the Collateral shall be so stored and kept, provide such guards and maintenance services as shall be necessary to protect the same and to preserve and maintain them in good condition; it being understood that the Assignor's obligation so to deliver the Collateral is of the essence of this Agreement and that, accordingly, upon application to a court of equity having jurisdiction, the Assignee shall be entitled to a decree requiring specific performance by the Assignor of such obligation. 7.2. Remedies; Disposition of the Collateral. Any Collateral --------------------------------------- repossessed by the Assignee under or pursuant to Section 7.1, and any other Collateral whether or not so repossessed by the Assignee, may be sold, assigned, leased or otherwise disposed of under one or more contracts or as an entirety, and without the necessity of gathering at the place of sale the property to be sold, and in general in such manner, at such time or times, at such place or places and on such terms as the Assignee may, in compliance with any mandatory requirements of applicable law, determine to be commercially reasonable. Any of the Collateral may be sold, leased or otherwise disposed of, in the condition in which the same existed when taken by the Assignee or after any overhaul or repair which the Assignee shall determine to be commercially reasonable. Any such disposition which shall be a private sale or other private proceeding permitted by such requirements shall be made upon not less than 10 days' written notice to the Assignor specifying the time at which such disposition is to be made and the intended sale price 9 or other consideration therefor, and shall be subject, for the 10 days after the giving of such notice, to the right of the Assignor or any nominee of the Assignor to acquire the Collateral involved at a price or for such other consideration at least equal to the intended sale price or other consideration so specified. Any such disposition which shall be a public sale permitted by such requirements shall be made upon not less than 10 days' written notice to the Assignor specifying the time and place of such sale and, in the absence of applicable requirements of law, shall be by public auction (which may, at the Assignee's option, be subject to reserve), after publication of notice of such auction not less than 10 days prior thereto in two newspapers in general circulation in the city of Pleasanton. To the extent permitted by any such requirement of law, the Assignee may bid for and become the purchaser of the Collateral or any item thereof, offered for sale in accordance with this Section 7.2 without accountability to the Assignor (except to the extent of surplus money received as provided in Section 7.4). If, under mandatory requirements of applicable law, the Assignee shall be required to make disposition of the Collateral within a period of time which does not permit the giving of notice to the Assignor as hereinabove specified, the Assignee need give the Assignor only such notice of disposition as shall be reasonably practicable in view of such mandatory requirements of applicable law. 7.3. Waiver of Claims. Except as otherwise provided in this ---------------- Agreement, THE ASSIGNOR HEREBY WAIVES, TO THE EXTENT PERMITTED BY APPLICABLE LAW, NOTICE AND JUDICIAL HEARING IN CONNECTION WITH THE ASSIGNEE'S TAKING POSSESSION OR THE ASSIGNEE'S DISPOSITION OF ANY OF THE COLLATERAL, INCLUDING, WITHOUT LIMITATION, ANY AND ALL PRIOR NOTICE AND HEARING FOR ANY PREJUDGMENT REMEDY OR REMEDIES AND ANY SUCH RIGHT WHICH ASSIGNOR WOULD OTHERWISE HAVE UNDER THE CONSTITUTION OR ANY STATUTE OF THE UNITED STATES OR OF ANY STATE, and the Assignor hereby further waives, to the extent permitted by law: (i) all damages occasioned by such taking of possession except any damages which are the direct result of the Assignee's gross negligence or willful misconduct; (ii) all other requirements as to the time, place and terms of sale or other requirements with respect to the enforcement of the Assignee's rights hereunder; and (iii) all rights of redemption, appraisement, valuation, stay, extension or moratorium now or hereafter in force under any applicable law in order to prevent or delay the enforcement of this Agreement or the absolute sale of the Collateral or any portion thereof, and the Assignor, for itself and all who may claim under it, insofar as it or they now or hereafter lawfully may, hereby waives the benefit of all such laws. Any sale of, or the grant of options to purchase, or any other realization upon, any Collateral shall operate to divest all right, title, interest, claim and demand, either at law or in equity, of the Assignor therein and thereto, and shall be a perpetual bar both at law and in equity against the Assignor and against any and all Persons claiming or attempting to claim the Collateral so sold, optioned or realized upon, or any part thereof, from, through and under the Assignor. 7.4. Application of Proceeds. The proceeds of any Collateral ----------------------- obtained pursuant to Section 7.1 or disposed of pursuant to Section 7.2 shall be applied as follows: 10 (i) to the payment of any and all expenses and fees (including reasonable attorneys' fees) incurred by the Assignee in obtaining, taking possession of, removing, insuring, repairing, storing and disposing of Collateral and any and all amounts incurred by the Assignee in connection therewith; (ii) next, any surplus then remaining to the payment of the Obligations in the following order of priority: (w) all interest accrued and unpaid; (x) the principal amount owing on the Loans; (y) the fees then owing to the Agent; and (z) all other Obligations then owing; (iii) if the Total Commitment is then terminated and no other Obligation is outstanding, any surplus then remaining shall be paid to the Assignor, subject, however, to the rights of the holder of any then existing Lien of which the Assignee has actual notice (without investigation); it being understood that the Assignor shall remain liable to the extent of any deficiency between the amount of the proceeds of the Collateral and the aggregate amount of the sums referred to in clauses (i) and (ii) of this Section 7.4 with respect to the Assignor. 7.5. Remedies Cumulative. No failure or delay on the part of the ------------------- Assignee in exercising any right, power or privilege hereunder or under any other Credit Document and no course of dealing between the Assignor and the Assignee shall operate as a waiver thereof; nor shall any single or partial exercise of any right, power or privilege hereunder or under any other Credit Document preclude any other or further exercise thereof or the exercise of any other right, power or privilege hereunder or thereunder. The rights, powers and remedies herein or in any other Credit Document expressly provided are cumulative and not exclusive of any rights, powers or remedies which the Assignee would otherwise have. No notice to or demand on the Assignor in any case shall entitle the Assignor to any other or further notice or demand in similar or other circumstances or constitute a waiver of the rights of the Assignee to any other or further action in any circumstances without notice or demand. 7.6. Discontinuance of Proceedings. In case the Assignee shall have ----------------------------- instituted any proceeding to enforce any right, power or remedy under this Agreement by foreclosure, sale, entry or otherwise, and such proceeding shall have been discontinued or abandoned for any reason or shall have been determined adversely to the Assignee, then and in every such case the Assignor and the Assignee shall be restored to their former positions and rights hereunder with respect to the Collateral subject to the security interest created under this Agreement, and all rights, remedies and powers of the Assignee shall continue as if no such proceeding had been instituted. SECTION 8. INDEMNITY --------- 11 8.1. Indemnity. (a) The Assignor agrees to indemnify, reimburse and --------- hold the Assignee and its officers, directors, employees, representatives and agents (hereinafter in this Section 8.1 referred to individually as "Indemnitee" and collectively as "Indemnitees") harmless from any and all liabilities, obligations, losses, damages, penalties, claims, actions, judgments, suits, costs, expenses or disbursements (including reasonable attorneys' fees and expenses) (for the purposes of this Section 8.1 the foregoing are collectively called "expenses") of whatsoever kind or nature which may be imposed on, asserted against or incurred by any of the Indemnitees in any way relating to or arising out of this Agreement, any other Credit Document or the documents executed in connection herewith and therewith or in any other way connected with the administration of the transactions contemplated hereby and thereby or the enforcement of any of the terms of or the preservation of any rights under any thereof, or in any way relating to or arising out of the manufacture, ownership, ordering, purchase, delivery, control, acceptance, lease, financing, possession, operation, condition, sale, return or other disposition or use of the Collateral (including, without limitation, latent or other defects, whether or not discoverable), the violation of the laws of any country, state or other governmental body or unit, any tort (including, without limitation, claims arising or imposed under the doctrine of strict liability, or for or on account of injury to or the death of any Person (including any Indemnitee), or for property damage) or any contract claim; provided that no Indemnitee shall be indemnified pursuant to this Section 8.1(a) for expenses to the extent caused by the gross negligence or willful misconduct of such Indemnitee. The Assignor agrees that upon written notice by any Indemnitee of any assertion that could give rise to an expense, the Assignor shall assume full responsibility for the defense thereof. Each Indemnitee agrees to use its best efforts to promptly notify the Assignor of any such assertion of which such Indemnitee has knowledge. (b) Without limiting the application of Section 8.1(a), the Assignor agrees to pay, or reimburse the Assignee for (if the Assignee shall have incurred fees, costs or expenses because the Assignor shall have failed to comply with its obligations under this Agreement or any other Credit Document), any and all fees, costs and expenses of whatever kind or nature incurred in connection with the creation, preservation or protection of the Assignee's Liens on, and security interest in, the Collateral, including, without limitation, all fees and taxes in connection with the recording or filing of instruments and documents in public offices, payment or discharge of any taxes or Liens upon or in respect of the Collateral, premiums for insurance with respect to the Collateral and all other fees, costs and expenses in connection with protecting, maintaining or preserving the Collateral and the Assignee's interest therein, whether through judicial proceedings or otherwise, or in defending or prosecuting any actions, suits or proceedings arising out of or relating to the Collateral. (c) Without limiting the application of Section 8.1(a) or (b), the Assignor agrees to pay, indemnify and hold each Indemnitee harmless from and against any expenses which such Indemnitee may suffer, expend or incur in consequence of or growing out of any misrepresentation by the Assignor in this Agreement or any of the other Credit Documents or in any statement or writing contemplated by or made or delivered pursuant to or in connection with this Agreement or any of the other Credit Documents. 12 (d) If and to the extent that the obligations of the Assignor under this Section 8.1 are unenforceable for any reason, Assignor hereby agrees to make the maximum contribution to the payment and satisfaction of such obligations which is permissible under applicable law. 8.2. Indemnity Obligations Secured by Collateral; Survival. Any ----------------------------------------------------- amounts paid by any Indemnitee as to which such Indemnitee has the right to reimbursement shall constitute Obligations secured by the Collateral. The indemnity obligations of the Assignor contained in this Article VIII shall continue in full force and effect notwithstanding the full payment of all the Notes issued under the Credit Agreement and all of the other Obligations and notwithstanding the discharge thereof. SECTION 9. DEFINITIONS ----------- 9.1. The following terms shall have the meanings herein specified unless the context otherwise requires. Such definitions shall be equally applicable to the singular and plural forms of the terms defined. "Agreement" shall mean this Security Agreement, as modified, supplemented or amended from time to time. "Asset Purchase Agreement" shall mean that certain Asset Purchase Agreement dated February 27, 1998, between the Assignor and Wham-O, Inc., as amended. "Assignee" shall have the meaning provided in the first paragraph of this Agreement. "Assignor" shall have the meaning provided in the first paragraph of this Agreement. "BNY" shall mean BNY Financial Corporation. "Chattel Paper" shall have the meaning assigned that term under the Uniform Commercial Code as in effect on the date hereof in the State of New York. "Collateral" shall have the meaning provided in Section 1.1(a). "Contracts" shall mean all contracts between the Assignor and one or more additional parties, excluding the Asset Purchase Agreement. "Contract Rights" shall mean all rights of the Assignor (including, without limitation, all rights to payment) under each Contract. "Copyrights" shall mean any U.S. copyright to which the Assignor now or hereafter has title, as well as any application for a U.S. copyright hereafter made by the Assignor. "Credit Agreement" shall have that certain Credit Agreement of even date herewith between the Assignor, as borrower, and the Assignee, as lender. 13 "Documents" shall have the meaning assigned that term under the Uniform Commercial Code as in effect on the date hereof in the State of New York. "Equipment" shall mean any "equipment," as such term is defined in the Uniform Commercial Code as in effect on the date hereof in the State of New York, now or hereafter owned by Assignor and, in any event, shall include, but shall not be limited to, all machinery, equipment, furnishings, fixtures and vehicles now or hereafter owned by the Assignor and any and all additions, substitutions and replacements of any of the foregoing, wherever located, together with all attachments, components, parts, equipment and accessories installed thereon or affixed thereto. "Existing Facility" shall mean that certain senior secured credit facility between the Assignor and BNY as evidenced by (i) that certain Accounts Receivable Management and Security Agreement, dated as of July 31, 1995 between the Assignor, as borrower, and BNY, as lender, as amended from time to time, and (ii) such other documents and instruments executed and delivered in connection with any of the foregoing. "General Intangibles" shall have the meaning assigned that term under the Uniform Commercial Code as in effect on the date hereof in the State of New York. "Goods" shall have the meaning assigned that term under the Uniform Commercial Code as in effect on the date hereof in the State of New York. "Indemnitee" shall have the meaning specified in Section 8.1. "Instrument" shall have the meaning assigned that term under the Uniform Commercial Code as in effect on the date hereof in the State of New York. "Inventory" shall mean all raw materials, work-in-process, and finished inventory of the Assignor of every type or description and all documents of title covering such inventory, and shall specifically include all "inventory" as such term is defined in the Uniform Commercial Code as in effect on the date hereof in the State of New York, now or hereafter owned by the Assignor. "Marks" shall mean any trademarks and service marks now held or hereafter acquired by the Assignor, which are registered in the United States Patent and Trademark Office, as well as any unregistered marks used by the Assignor in the United States and trade dress, including logos and/or designs, in connection with which any of these registered or unregistered marks are used. "Obligations" shall mean: (a) all indebtedness, obligations and liabilities (including, without limitation, guarantees and other contingent liabilities) of the Assignor to the Assignee arising under or in connection with any Credit Document; (b) any and all sums advanced by the Assignee in order to preserve the Collateral or preserve its security interest in the Collateral; and (c) in the event of any proceeding for the collection or enforcement of any indebtedness, obligations or liabilities of the Assignor referred to in clause (a), after an Event of Default shall have occurred and be continuing, the reasonable expenses of re-taking, holding, 14 preparing for sale or lease, selling or otherwise disposing or realizing on the Collateral, or of any exercise by the Assignee of its rights hereunder, together with reasonable attorneys' fees and court costs. "Patents" shall mean any U.S. patent to which the Assignor now or hereafter has title, as well as any application for a U.S. patent now or hereafter made by Assignor. "Proceeds" shall have the meaning assigned that term under the Uniform Commercial Code as in effect in the State of New York on the date hereof or under other relevant law and, in any event, shall include, but not be limited to, (i) any and all proceeds of any insurance, indemnity, warranty or guaranty payable to the Assignee or the Assignor from time to time with respect to any of the Collateral, (ii) any and all payments (in any form whatsoever) made or due and payable to the Assignor from time to time in connection with any requisition, confiscation, condemnation, seizure or forfeiture of all or any part of the Collateral by any governmental authority (or any Person acting under color of governmental authority) and (iii) any and all other amounts from time to time paid or payable under or in connection with any of the Collateral. "Receivables" shall mean any "account" as such term is defined in the Uniform Commercial Code as in effect on the date hereof in the State of New York, now or hereafter owned by Assignor and, in any event, shall include, but shall not be limited to, all of the Assignor's rights to payment for goods sold or leased or services performed by the Assignor, whether now in existence or arising from time to time hereafter, including, without limitation, rights evidenced by an account, note, contract, security agreement, chattel paper or other evidence of indebtedness or security, together with (i) all security pledged, assigned, hypothecated or granted to or held by the Assignor to secure the foregoing, (ii) all of the Assignor's right, title and interest in and to any goods, the sale of which gave rise thereto, (iii) all guarantees, endorsements and indemnifications on, or of, any of the foregoing, (iv) all powers of attorney for the execution of any evidence of indebtedness or security or other writing in connection therewith, (v) all books, records, ledger cards, and invoices relating thereto, (vi) all evidences of the filing of financing statements and other statements and the registration of other instruments in connection therewith and amendments thereto, notices to other creditors or secured parties, and certificates from filing or other registration officers, (vii) all credit information, reports and memoranda relating thereto and (viii) all other writings related in any way to the foregoing. SECTION 10. MISCELLANEOUS ------------- 10.1. Notices. All notices and other communications hereunder shall ------- be made at the addresses, in the manner and with the effect provided in Section 9.3 of the Credit Agreement. 10.2. Waiver; Amendment. This Agreement may be charged, waived, ----------------- discharged, or terminated only by an instrument in writing signed by the party against which enforcement of such change, waiver, discharge or termination is sought. 10.3. Obligations Absolute. The obligations of the Assignor under -------------------- this Agreement shall be absolute and unconditional and shall remain in full force and effect without 15 regard to, and shall not be released, suspended, discharged, terminated or otherwise affected by, any circumstance or occurrence whatsoever, including, without limitation: (i) any renewal, extension, amendment or modification of, or addition or supplement to or deletion from, any of the Credit Documents or any other instrument or agreement referred to therein, or any assignment or transfer of any thereof; (ii) any waiver, consent, extension, indulgence or other action or inaction under or in respect of any such instrument or agreement or this Agreement or any exercise or non-exercise of any right, remedy, power or privilege under or in respect of this Agreement or any other Credit Document; (iii) any furnishing of any additional security to the Assignee or any acceptance thereof or any sale, exchange, release, surrender or realization of or upon any security by the Assignee; or (iv) any invalidity, irregularity or unenforceability of all or part of the Obligations or of any security therefor. 16 10.4. Successors and Assigns. This Agreement shall be binding upon ---------------------- and inure to the benefit of and be enforceable by the respective successors and assigns of the partners hereto; provided, however, that the Assignor may not assign or transfer any of its rights or obligations hereunder without the prior written consent of the Assignee. All agreements, statements, representations and warranties made by the Assignor herein or in any certificate or other instrument delivered by the Assignor or on its behalf under this Agreement shall survive the execution and delivery of this Agreement and the other Credit Documents. 10.5. Headings Descriptive. The headings of the several sections and -------------------- subsections of this Agreement are inserted for convenience only and shall not in any way affect the meaning or construction of any provision of this Agreement. 10.6. Governing Law. This Agreement and the rights and obligations ------------- of the parties hereunder shall be construed in accordance with and be governed by the law of the State of New York. 10.7. Waiver of Jury Trial. Assignor and Assignee each acknowledges -------------------- and agrees that any controversy that may arise under this Agreement is likely to involve complicated and difficult issues, and therefore each party hereby irrevocably and unconditionally waives any right it may have to a trial by jury in respect to any litigation directly or indirectly arising out of or relating to this Agreement, or the breach, termination or validity of this Agreement, or the transactions contemplated by this Agreement. Each party to this Agreement certifies and acknowledges that (A) no representative, agent or attorney of any other party has represented, expressly or otherwise, that such party would not, in the event of litigation, seek to enforce the foregoing waiver, (B) it understands and has considered the implication of this waiver, (C) it makes this waiver voluntarily and (D) it has been induced to enter into this Agreement by, among other things, the mutual waivers and certifications in this Section 10.7. 10.8. Assignor's Duties. It is expressly agreed, anything herein ----------------- contained to the contrary notwithstanding, that the Assignor shall remain liable to perform all of the obligations, if any, assumed by it with respect to the Collateral and the Assignee shall not have any obligations or liabilities with respect to any Collateral by reason of or arising out of or in connection with this Agreement, nor shall the Assignee be required or obligated in any manner to perform or fulfill any of the obligations of the Assignor under or with respect to any Collateral. 10.9. Termination; Release. After all Obligations have been paid in -------------------- full, this Agreement shall terminate, and the Assignee, at the request and expense of the Assignor, will execute and deliver to the Assignor the proper instruments (including Uniform Commercial Code termination statements on form UCC-3) acknowledging the termination of this Agreement, and will duly assign, transfer and deliver to the Assignor (without recourse and without any representation or warranty) such of the Collateral as may be in possession of the Assignee and has not theretofore been sold or otherwise applied or released pursuant to this Agreement. 10.10. Counterparts. This Agreement may be executed in any number of ------------ counterparts and by the different parties hereto on separate counterparts, each of which when so executed and delivered shall be an original, but all of which shall together constitute one and the same instrument. 17 IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be executed and delivered by their duly authorized officers as of the date first above written. YES! ENTERTAINMENT CORPORATION, as Assignor By ____________________________________ Title: INFINITY INVESTORS LIMITED, as Assignee By ___________________________________ Title: 18 EX-27.1 4 FINANCIAL DATA SCHEDULE
5 1,000 3-MOS 9-MOS DEC-31-1998 DEC-31-1998 JUL-01-1998 JAN-01-1998 SEP-30-1998 SEP-30-1998 169 169 0 0 16,156 16,156 10,322 10,322 8,986 8,986 19,083 19,083 17,114 17,114 12,771 12,771 23,591 23,591 20,636 20,636 0 0 0 0 8,089 8,089 92,295 92,295 (99,216) (99,216) 23,591 23,591 7,883 25,587 7,883 25,587 5,485 15,835 5,485 15,835 5,239 17,780 0 0 270 918 (2,974) (2,861) 0 0 (2,974) (2,861) 0 0 0 0 0 0 (2,974) (2,861) (0.19) (0.24) 0 0
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