ITEM 1. BUSINESS
With respect to this discussion, the terms “we,” “us,” “our,” “Atrinsic”, and the “Company” refer to Atrinsic, Inc., a Delaware corporation and its wholly-owned subsidiaries, including New Motion Mobile, Inc. and Traffix, Inc. (“Traffix”), also Delaware corporations.
What We Do
Atrinsic, Inc. is a marketer of direct-to-consumer subscription products and an Internet search-marketing agency. We sell entertainment and lifestyle subscription products directly to consumers, which we market through the Internet. We also sell Internet marketing services to our corporate and advertising clients. We have developed our marketing media network, consisting of web sites, proprietary content and licensed media, to attract consumers, corporate partners and advertisers. We believe our marketing media network and proprietary technology allows us to cost-effectively acquire consumers for our products and for our corporate partners and advertisers.
Our business is focused on two key areas:
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Direct-to consumer subscriptions, built around the Kazaa brand, and
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Search and affiliate marketing, built around the Atrinsic Interactive brand.
Our direct-to-consumer subscription business is built around a recurring-revenue business model. We are focused on digital music in the rapidly growing mobile space, and our lead offering, Kazaa, is a recognizable brand in this market. We also provide alternative billing capabilities, allowing our subscribers to utilize payment methods other than just credit cards, to purchase our services. Our core strategic focus for Kazaa and our direct-to-consumer subscription business is to build and sustain a large and profitable subscriber base and a growing and engaged audience and to deliver entertainment content to our customers anywhere, anytime and on any device, in a manner our customers choose.
Atrinsic Interactive, our affiliate network and search marketing agency, is a top ten search agency according to Advertising Age (2010) and a top-tier affiliate network. We offer advertisers an integrated service offering across paid search, or search engine marketing (“SEM”), search engine optimization (“SEO”), display advertising, affiliate marketing, as well as offering business intelligence and brand protection services to our clients. We work with all types and sizes of advertisers on a performance basis to assist them in acquiring customers at an attractive return on investment. Our core strategic focus for Atrinsic Interactive is to build a leading independent search marketing agency and a top-five affiliate network.
Business Overview
In February 2008, New Motion, Inc., a subscription-based mobile content company which was originally incorporated in 1994 under the laws of the state of Delaware under the original name, The Millbrook Press, Inc., merged with Traffix, Inc., an Internet marketing company. Pursuant to the merger, Traffix became our wholly owned subsidiary and in June 2009, after approval by our stockholders, we changed our name from New Motion, Inc. to Atrinsic, Inc. and also changed our ticker symbol on the NASDAQ Global Market from “NWMO” to “ATRN.”
Since the merger with Traffix, we have engaged in several other transactions, including our purchase of the Ringtone.com assets in June 2008 for approximately $8.8 million in cash and notes. This acquisition gave us a prominent domain from which to market our mobile content services. In addition, in October 2008, we acquired a 36% minority interest in The Billing Resource, LLC (“TBR”), initially contributing $2.2 million to its formation. TBR is an aggregator of fixed line telephone billing, providing its customers with the ability to charge end user customer’s telephone bills for subscription services they deliver.
On July 31, 2009, the Company entered into an Asset Purchase Agreement (“ShopIt APA”) with ShopIt.com pursuant to which the Company acquired certain net assets from ShopIt.com, including but not limited to software, trademarks and certain domain names. In consideration for the assets, the Company at the closing cancelled $1.8 million in aggregate principal amount of indebtedness owed by ShopIt to the Company, paid to ShopIt $450,000 and issued 95,000 shares of the Company’s common stock.
On March 26, 2010, we entered into a Marketing Services Agreement (the “Marketing Agreement”) and a Master Services Agreement (the “Services Agreement”) with Brilliant Digital, Inc. (“Brilliant Digital”) effective as of July 1, 2009 (collectively, the “Agreements”), relating to the operation and marketing of the Kazaa digital music service. The Agreements govern the operation of Brilliant Digital’s Kazaa digital music service, which is jointly operated by us and Brilliant Digital. Under the Marketing Services Agreement, we are responsible for marketing, promotional, and advertising services for the Kazaa business. Pursuant to the Master Services Agreement, we provide services related to the operation of the Kazaa business, including billing and collection services and the operation of the Kazaa online storefront. Brilliant Digital is obligated to provide certain other services with respect to the Kazaa business, including licensing the intellectual property underlying the Kazaa business to Atrinsic, obtaining all licenses to the content offered as part of the Kazaa business and delivering that content to subscribers. As part of the agreements, we are required to make advance payments and expenditures of certain expenses incurred in order to operate the Kazaa business. These advances and expenditures are recoverable on a dollar for dollar basis against revenues generated by the business.
Beginning in April 2010, we began to take steps to eliminate unprofitable or marginally profitable lead generation activities and marketing programs from our product offerings, to focus the Company on businesses our Board believes will be more likely to generate long term value for our stockholders.
On October 13, 2010, we entered into amendments to the Agreements with Brilliant Digital and entered into an agreement with Brilliant Digital and Altnet, Inc., a wholly-owned subsidiary of Brilliant Digital, to acquire all of the assets of Brilliant Digital that relate to its Kazaa digital music service.
Among other things, the amendments extend the term of the Agreements from three years to thirty years, provide us with an exclusive license to the Kazaa trademark in connection with our services under the agreements, and modify the Kazaa digital music service profit share payable to us under the agreements from 50% to 80%. In addition, the amendments remove Brilliant Digital’s obligation to repay up to $2.5 million of advances and expenditures which are not otherwise recovered from Kazaa generated revenues and remove a $5 million cap on expenditures that we are required to advance to the operation of the Kazaa business. As consideration for entering into the amendments, we issued 1,040,358 shares of our common stock to Brilliant Digital.
On October 13, 2010, in addition to the amendments to the Agreements, we entered into an asset purchase agreement with Brilliant Digital to acquire all of the assets of Brilliant Digital that relate to the Kazaa business. The purchase price for the acquired assets includes the issuance of an additional 1,781,416 shares of our common stock at the closing of the transaction, as well as the assumption of certain liabilities related to the Kazaa business. The closing of the transaction contemplated by the asset purchase agreement will occur when all of the assets associated with the Kazaa business, including the Kazaa trademark and associated intellectual property, as well as Brilliant Digital’s content management, delivery and customer service platforms, and licenses with third parties, have been transferred to us. The closing of the transaction is subject to approval by both our stockholders and Brilliant Digital’s stockholders, receipt of all necessary third party consents as well as other customary closing conditions. At the closing of the transactions contemplated by the asset purchase agreement, we have agreed to appoint two individuals to be selected by Brilliant Digital to serve on our Board. In addition, at the closing, the Marketing Services Agreement and Master Services Agreement will terminate.
In November, 2010, in connection with our announcement to purchase the assets of the Kazaa digital music service, we also undertook a restructuring of our existing operations to rapidly reduce certain expenditures. The restructuring involves the consolidation of all of our activities in New York and includes the closure of our Canadian technology facility and the retrenchment of approximately 40 employees in the U.S. and in Canada. In addition to the restructuring of our Canadian operations, which is substantially complete, we intend to transition the Kazaa functions and activities that are currently being carried out by personnel and contractors of Brilliant Digital, including development, backend and marketing operations, to the U.S. from Sydney, Australia.
On December 2, 2010, in order to meet the $1.00 minimum bid price continued listing standard on the NASDAQ Global Market, we effected a 1-for-4 reverse stock split of our common stock, after approval by our stockholders. Subsequent to the reverse split, we regained listing compliance on the Nasdaq Global Market.
Financing
In order to fund operations, we need to raise additional capital. We are currently working with an independent financial advisory firm to assist us in structuring a financing arrangement and to engage an investment bank to assist us in raising debt or equity capital to fund our immediate cash needs and to finance our longer term growth to further develop the Kazaa business and grow our subscriber base. We currently have no formal arrangements in place with respect to additional financing and there is no guaranty funding will be available on favorable terms or at all. If we cannot obtain such funds, we will need to significantly curtail or cease our operations. In addition, the sale of additional equity securities or convertible debt could result in dilution to our stockholders.
We continue to evaluate the sale of certain of our assets and businesses. We cannot provide any assurance that we will be successful in finding suitable purchasers for the sale of such assets. Even if we are able to find purchasers, we may not be able to obtain attractive terms and conditions for such sales, including attractive pricing. In addition, divestitures of businesses involve a number of risks, including the diversion of management and employee attention, significant costs and expenses, the loss of customer relationships, a decrease in revenues and contribution associated with the divested business, and the disruption of operations in the affected business. Furthermore, divestitures potentially involve significant post-closing separation activities, which could involve the expenditure of significant financial and employee resources. An inability to consummate identified asset sales or manage the post-separation transition arrangements could adversely affect our business, financial condition, results of operations and cash flows.
Ability to Continue as a Going Concern
There is substantial doubt about our ability to continue as a going concern. Our consolidated financial statements included in this Annual Report on Form 10-K are prepared using accounting principles generally accepted in the United States of America applicable to a going concern, which contemplates the realization of assets and liquidation of liabilities in the normal course of business. The historical consolidated financial statements included in this Annual Report on Form 10-K do not include any adjustments that might be necessary if we are unable to continue as a going concern. The report of our independent registered public accountants, KPMG LLP, includes an explanatory paragraph related to our ability to continue as a going concern.
The assessment of our ability to continue as a going concern was made by management considering, among other factors: (i) our current levels of expenditures, including subscriber acquisition costs, operating expense, including product development, and overhead, (ii) our ongoing working capital needs, (iii) the uncertainty concerning the outcome of any financing, (iv) our fiscal year net losses of $19.7 million and $29.5 million for the years ending December 31, 2010 and 2009, respectively, (v) our $11.2 million and $3.0 million in cash used for operating activities for the years ending December 31, 2010 and 2009, respectively, (vi) the outstanding balance of cash and cash equivalents of $6.3 million as of December 31, 2010, and (vii) our budgets and financial projections of future operations, including the likelihood of achieving operating profitability without the need for additional financing.
For periods subsequent to December 31, 2010, we expect our losses to continue if we make expenditures to develop the Kazaa service, acquire subscribers for the Kazaa digital music service, and are not able to reduce other operating expenses and overhead sufficiently to a level in line with our level of revenues. If we are unable to increase revenues sufficiently or decrease our expenditures to a sustainable level, our financial position, results of operations, cash flows and liquidity will continue to be materially adversely affected. These conditions raise substantial doubt about our ability to continue as a going concern.
Based on current financial projections, we believe the continuation of our Company as a going concern is primarily dependent on our ability to, among other factors: (i) consummate a suitable financing, or obtain financing from the sale of our assets or lines of business, (ii) scale our Kazaa subscriber base to a level where the monthly revenue generated from our subscriber base exceeds subscriber acquisition costs, net of expenses required to operate Kazaa, (iii) continue to generate revenue from our legacy subscription products without billing or service disruption, (iv) eliminate or reduce operating and overhead expenditures to a level more in line with our revenue, (v) improve utilization of the Kazaa digital music service and improve Lifetime Value (“LTV”) of subscribers to that service, (vi) acquire profitable subscribers to the Kazaa digital music service at cost effective rates,(vii) grow our search marketing agency revenue base through the addition of new customers or expansion of business with existing customers and, (viii) expand margins in our search marketing agency and on our affiliate platform. While we address these operating matters, we must continue to meet expected near-term obligations, including normal course operating cash requirements and costs associated with developing and operating the Kazaa digital music service, as well as funding overhead and the working capital needs of our other businesses. If we are not able to obtain sufficient funds through a financing, or if we experience adverse outcomes with respect to our operational forecasts, our financial position, results of operations, cash flows and liquidity will continue to be materially adversely affected. See Item 1A
ITEM 1A. RISK FACTORS
Investing in our common stock involves a high degree of risk. You should carefully consider the following risk factors and all other information contained in this report before purchasing our common stock. The risks and uncertainties described below are not the only ones facing us. Additional risks and uncertainties that management is unaware of, or that it currently deems immaterial, also may become important factors that affect us. If any of the following risks occur, our business, financial condition, cash flows and/or results of operations could be materially and adversely affected. In that case, the trading price of our common stock could decline, and stockholders are at risk of losing some or all of the money invested in purchasing our common stock.
There is substantial doubt about our ability to continue as a going concern.
Our consolidated financial statements included in this Annual Report on Form 10-K are prepared using accounting principles generally accepted in the United States of America applicable to a going concern, which contemplates the realization of assets and liquidation of liabilities in the normal course of business. The historical consolidated financial statements included in this Annual Report on Form 10-K do not include any adjustments that might be necessary if we are unable to continue as a going concern. The report of our independent registered public accountants, KPMG LLP, includes an explanatory paragraph related to our ability to continue as a going concern.
The assessment of our ability to continue as a going concern was made by management considering, among other factors: (i) our current levels of expenditures, including subscriber acquisition costs, operating expense, including product development, and overhead, (ii) our ongoing working capital needs, (iii) the uncertainty concerning the outcome of any financing, (iv) our fiscal year net losses of $19.7 million and $29.5 million for the years ending December 31, 2010 and 2009, respectively, (v) our use of $11.2 million and $3.0 million of cash used for operating activities during the years ending December 31, 2010 and 2009, respectively, (vi) the outstanding balance of cash and cash equivalents of $6.3 million as of December 31, 2010, and (vii) our budgets and financial projections of future operations, including the likelihood of achieving operating profitability without the need for additional financing.
For periods subsequent to December 31, 2010, we expect losses to continue if we maintain expenditures to develop the Kazaa service, acquire subscribers for the Kazaa digital music service, and are not able to reduce other operating expenses and overhead sufficiently to a level in line with our level of revenues. If we are unable to increase revenues sufficiently or decrease our expenditures to a sustainable level, our financial position, results of operations, cash flows and liquidity will continue to be materially adversely affected. These conditions raise substantial doubt about our ability to continue as a going concern.
Based on current financial projections, we believe the continuation of our Company as a going concern is primarily dependent on our ability to, among other factors: (i) consummate a suitable financing, or obtain financing from the sale of our assets or lines of business, (ii) scale our Kazaa subscriber base to a level where the monthly revenue generated from our subscriber base exceeds subscriber acquisition costs, net of expenses required to operate Kazaa, (iii) continue to generate revenue from our legacy subscription products without billing or service disruption, (iv) eliminate or reduce operating and overhead expenditures to a level more in line with our revenue, (v) improve utilization of the Kazaa digital music service and improve LTVs of subscribers to that service (vi) acquire profitable subscribers to the Kazaa digital music service at cost effective rates(vii) grow our search marketing agency revenue base through the addition of new customers or expansion of business with existing customers, and (viii) expand margins in our search marketing agency and on our affiliate platform. While we address these operating matters, we must continue to meet expected near-term obligations, including normal course operating cash requirements and costs associated with developing and operating the Kazaa digital music service, as well as funding overhead and the working capital needs of our other businesses. If we are not able to obtain sufficient funds through a financing, or if we experience adverse outcomes with respect to our operational forecasts, our financial position, results of operations, cash flows and liquidity will continue to be materially adversely affected.
In the near term, we are focused on: (i) raising debt or equity capital to fund our immediate cash needs and to finance our longer term growth to further develop the Kazaa business and grow our subscriber base, and (ii) pursuing various means to minimize operating costs and increase cash. We cannot provide assurance that we will be able to realize the cost reductions in our operations, or that we can obtain additional cash through asset sales or the issuance of debt or equity. If we are unsuccessful in our efforts we will be required to further reduce our operations, including further reductions of our employee base, or we may be required to cease certain or all of our operations in order to offset the lack of available funding.
We continue to evaluate the sale of certain of our assets and businesses. We cannot provide any assurance that we will be successful in finding suitable purchasers for the sale of such assets. Even if we are able to find purchasers, we may not be able to obtain attractive terms and conditions for such sales, including attractive pricing. In addition, divestitures of businesses involve a number of risks, including the diversion of management and employee attention, significant costs and expenses, the loss of customer relationships, a decrease in revenues associated with the divested business, and the disruption of operations in the affected business. Furthermore, divestitures potentially involve significant post-closing separation activities, which could involve the expenditure of significant financial and employee resources. An inability to consummate identified asset sales or manage the post-separation transition arrangements could adversely affect our business, financial condition, results of operations and cash flows.
If our purchase of the Kazaa assets does not close, the price of our common stock could decline and our future business and operations could be harmed.
The Company's and Brilliant Digital’s obligations to complete the purchase and sale of the Kazaa assets is subject to conditions, many of which are beyond the control of the parties. If the transaction is not completed for any reason:
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The price of our common stock may decline;
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We will incur costs related to the transaction, such as financial advisory, legal, accounting, proxy solicitation and printing fees, even if the transaction is not completed;
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We will not be able to realize the expected benefits of the acquisition which are a significant component of our growth strategy;
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We may not be able to operate as effectively under the existing Marketing Services Agreement and Master Services Agreement, which agreements are to remain in place if the transaction does not close,
All of which may harm our business and operations.
We have experienced a significant reduction in revenue and have been using cash to fund operations. If we cannot halt this revenue decline and reduce expenditures we may have to cease operations.
The Company has experienced a significant revenue decline and degradation in business prospects over the past two years, and as a result the Company has used a significant amount of cash to fund its operations. The Company’s cash and cash equivalents were $6.3 million as of December 31, 2010, which is a $10.6 million decline from the $16.9 million as of December 31, 2009. If we are unsuccessful at stabilizing or slowing the decline in our revenue, and our associated use of cash to fund operations, or if we cannot raise cash through financing alternatives, then we will need to significantly curtail or cease operations.
The working capital requirements for companies in the digital music industry is significant
The digital music industry is highly competitive and as a result of the industry’s characteristics, subjects market participants to significant working capital requirements, as is evidenced by the numerous companies in the industry that have experienced significant losses. If we are to attract and retain talented employees, acquire subscribers and enhance and improve the Kazaa digital music service, which we will need to do if we are to be successful, we will have significant capital requirements. There is no guarantee additional capital will be available on favorable terms or at all.
We will require additional capital to pursue our business objectives and respond to business opportunities, challenges or unforeseen circumstances. If capital is not available to us or available to us under adverse circumstances, our business, operating results and financial condition may be harmed.
We will require additional capital to operate or expand our business. In addition, some of our current or future strategic initiatives, including continued growth of the Kazaa line of business, will require substantial additional capital resources before they begin to generate revenue. Additional funds may not be available when we need them, on terms that are acceptable to us, or at all. In addition, volatility in the credit markets may have an adverse effect on our ability to obtain debt or equity financing. If we do not have funds available to enhance our business, maintain the competitiveness of our technology and pursue business opportunities, we may not be able to service our existing subscribers and customers, or acquire new subscribers or customers , which could have an adverse effect on our business, operating results and financial condition.
We face risks in implementing our restructuring plan.
In connection with our announcement to purchase the assets of the Kazaa digital music service, we are undertaking a restructuring of our existing operations. Although the reorganization and consolidation of activities are expected to yield cost savings as a result of the reduction in headcount, the elimination of duplicative activities and combining or eliminating networking and other overhead costs, there can be no assurance that we will achieve the forecasted savings. Our remaining business may also suffer as a result of the restructuring due to the loss of employees, who have been involuntarily terminated, or employees who leave voluntarily. We may also face defections from customers who are unsure of our viability and may also receive less favorable terms than we currently receive from our vendors, as a result of their perception of the restructuring. There can be no assurance that the restructuring will be completed effectively, with limited negative impact on our business.
As part of our restructuring plan and in connection with the integration of activities with the Kazaa business, we will be migrating many of our technological assets. We face risks with such migrations, including disruptions in service. Also, the costs and time associated with any migration could be substantial, requiring the reengineering of computer systems and telecommunications infrastructure. We may also face interruptions in the services we provide across all of our business activities. In addition to service interruptions arising from third-party service providers, unanticipated problems affecting our proprietary internal computer and telecommunications systems have the potential to occur in future fiscal periods, and could cause interruptions in the delivery of services, causing a loss of revenue and related gross margins, and the potential loss of customers, all of which could materially and adversely affect our business, results of operations and financial condition.
The anticipated benefits of the acquisition of the Kazaa business may not be realized fully or at all or may take longer to realize than expected.
The integration of Atrinsic and the business of Kazaa face challenges as a result of the differing geographical locations of the two businesses. In the event the transactions contemplated by the asset purchase agreement close, the combined company will be required to devote significant management attention and resources to integrating the Kazaa business and the assets into our operations. Delays in this process could adversely affect our business, financial results, financial condition and stock price. Even if we are able to integrate the business operations successfully, there can be no assurance that this integration will result in the realization of the full benefits of synergies, cost savings, innovation and operational efficiencies that may be possible from this integration or that these benefits will be achieved within a reasonable period of time.
We face intense competition in the sale of our subscription services and transactional and marketing services.
In our subscription service business, which includes the Kazaa music service, and our marketing services business, we compete primarily on the basis of marketing acquisition cost, brand awareness, consumer penetration and carrier and distribution depth and breadth. We face numerous competitors, many of whom are much larger than us, who have greater financial and operating resources than we do and who have been operating in our target markets longer than we have. In the future, likely competitors may include other major media companies, traditional video game publishers, telephone carriers, content aggregators, wireless software providers and other pure-play direct response marketers publishing content and media, and Internet affiliate and network companies.
If we are not as successful as our competitors in executing on our strategy in targeting new markets and increasing customer penetration in existing markets our sales could decline, our margins could be negatively impacted and we could lose market share, any and all of which could materially harm our business prospects, and potentially have a negative impact on our share price.
We may continue to be impacted by the effects of the current weakness of the United States economy.
Our performance is subject to United States economic conditions and its impact on levels of consumer spending. Consumer spending recently has deteriorated significantly as a result of the current economic situation in the United States and may remain depressed, or be subject to further deterioration for the foreseeable future. Purchases of our subscription based services as well as our transactional and marketing services have declined in periods of recession or uncertainty regarding future economic prospects, as disposable income declines. Many factors affect the level of spending for our products and services, including, among others: prevailing economic conditions, levels of employment, salaries and wage rates, interest rates, the availability of consumer credit, taxation and consumer confidence in future economic conditions. During periods of recession or economic uncertainty, we may not be able to maintain or increase our sales to existing customers or make sales to new customers on a profitable basis. As a result, our operating results may be adversely and materially affected by downward trends in the United States or global economy, including the current downturn in the United States which has impacted our business, and which may continue to affect our results of operations.
Our business relies on wireless and landline carriers and aggregators to facilitate billing and collections in connection with our subscription products sold and services rendered. The loss of, or a material change in, any of these relationships could materially and adversely affect our business, operating results and financial condition.
We generate a significant portion of our revenues from the sale of our products and services directly to consumers which are billed through aggregators and telephone carriers. We expect that we will continue to bill a significant portion of our revenues through a limited number of aggregators for the foreseeable future, although these aggregators may vary from period to period. In a risk diversification and cost saving effort, we have established a direct billing relationship with a carrier that mitigates a portion of our revenue generation risk as it relates to aggregator dependence; conversely this risk is replaced with internal performance risk regarding our ability to successfully process billable messages directly with the carrier. Moreover, in an effort to further mitigate such operational risk, we obtained a 36% equity stake in a landline telephone aggregator, TBR, to give us more visibility in the billing and collection process associated with subscription services billed to customers of local exchange carriers.
Our aggregator agreements are not exclusive and generally have a limited term of less than three years with automatic renewal provisions upon expiration in the majority of the agreements. These agreements set out the terms of our relationships with the aggregator and carriers, and provide that either party to the contract can terminate such agreement prior to its expiration, and in some instances, terminate without cause.
Many other factors exist that are outside of our control and could impair our carrier relationships, including:
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a carrier’s decision to suspend delivery of our products and services to its customer base;
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a carrier’s decision to offer its own competing subscription applications, products and services;
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a carrier’s decision to offer similar subscription applications, products and services to its subscribers for price points less than our offered price points, or for free;
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a network encountering technical problems that disrupt the delivery of, or billing for, our applications;
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the potential for concentrations of credit risk embedded in the amounts receivable from the aggregator should any one, or group of aggregators encounter financial difficulties, directly or indirectly, as a result of the current period of slower economic growth affecting the United States; or
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a carrier’s decision to increase the fees it charges to market and distribute our applications, thereby increasing its own revenue and decreasing our share of revenue.
If one or more carriers decide to suspend the offering of our subscription services, we may be unable to replace such revenue source with an acceptable alternative, within an acceptable time frame. This could cause us to lose the capability to derive revenue from those subscribers, which could materially harm our business, operating results and financial condition.
We depend on third-party Internet and telecommunications providers, over whom we have no control, for the conduct of our subscription business and transactional and marketing business. Interruptions in or the discontinuance of the services provided by one of the providers could have an adverse effect on revenue; and securing alternate sources of these services could significantly increase expenses and cause significant interruption to both our transactional and marketing and subscription businesses.
We depend heavily on several third-party providers of Internet and related telecommunication services, including hosting and co-location facilities, in conducting our business. These companies may not continue to provide services to us without disruptions in service, at the current cost or at all. The costs and time associated with any transition to a new service provider would be substantial, requiring the reengineering of computer systems and telecommunications infrastructure to accommodate a new service provider to allow for a rapid replacement and return to normal network operations. In addition, failure of the Internet and related telecommunications providers to provide the data communications capacity in the time frame required by us could cause interruptions in the services we provide across all of our business activities. In addition to service interruptions arising from third-party service providers, unanticipated problems affecting our proprietary internal computer and telecommunications systems have the potential to occur in future fiscal periods, and could cause interruptions in the delivery of services, causing a loss of revenue and related gross margins, and the potential loss of customers, all of which could materially and adversely affect our business, results of operations and financial condition.
We depend on partners and third-parties for our content and for the delivery of services underlying our subscriptions.
We depend heavily on partners and third parties to provide us with licensed content including for the Kazaa music service. We are reliant on such companies to maintain licenses with content providers, including music labels, so that we can deliver services that we are contractually obligated to deliver to our customers. These companies may not continue to provide services to us without disruption, or maintain licenses with the owners of the delivered content. In addition to licensed content, we are also reliant on partners and third parties to provide services and to perform other activities which allow us to bill our subscribers. The costs associated with any transition to a new service or content provider would be substantial, even if a similar partner is available. Failure of our partners or other third parties to provide content or deliver services has the potential to cause interruptions in the delivery of services, causing a loss of revenue and related gross margins, and the potential loss of customers, all of which could materially and adversely affect our business, results of operations and financial condition.
We may not fully recoup the expenses and other costs we have expended with respect to the Kazaa music service.
On March 26, 2010, we entered into three-year Marketing Services Agreement and Master Services Agreement with Brilliant Digital, effective July 1, 2009, relating to the operation and marketing of the Kazaa digital music service. Under the agreements, we are responsible for marketing, promotional, and advertising services. In exchange for these marketing services, the Company is entitled to full recoupment for all pre-approved costs and expenses incurred in connection with the provision of the services plus all other agreed budgeted amounts. On October 13, 2010, Atrinsic entered into amendments to its existing Marketing Services Agreement and Master Services Agreement with Brilliant Digital. The amendments extend the term of each of the Marketing Services Agreement and Master Services Agreement from three years to thirty years, provide Atrinsic with an exclusive license to the Kazaa trademark in connection with Atrinsic’s services under the agreements, and modify the Kazaa digital music service profit share payable to Atrinsic under the agreements from 50% to 80%. In addition, the amendments remove Brilliant Digital’s obligation to repay up to $2.5 million of advances and expenditures which are not otherwise recovered from Kazaa generated revenues and remove the cap on expenditures that Atrinsic is required to advance in relation to the operation of the Kazaa business.
As of December 31, 2010, the Company has received the $2.5 million in repayments from Brilliant Digital and we are dependent on the future net cash flow of the Kazaa music service to fully recoup the approximately $11.8 million of advances and expenditures we have made, net of cash received or reimbursed, as of December 31, 2010. There can be no assurance that the future net cash flows from the Kazaa music service will be sufficient to allow us to fully recoup our expenditures, which could materially and adversely affect our financial condition.
If advertising on the internet loses its appeal, our revenue could decline.
Companies doing business on the Internet must compete with traditional advertising media, including television, radio, cable and print, for a share of advertisers' total marketing budgets. Potential customers may be reluctant to devote a significant portion of their marketing budget to Internet advertising or digital marketing if they perceive the Internet to be trending towards a limited or ineffective marketing medium. Any shift in marketing budgets away from Internet advertising spending or digital marketing solutions, could directly, materially and adversely affect our transactional and marketing business, as well as our subscription business, with both having a materially negative impact on our results of operations and financial condition.
All of our revenue is generated, directly or indirectly, through the Internet in part by delivering advertisements that generate leads, impressions, click-throughs, and other actions to our advertiser customers' websites as well as confirmation and management of mobile services. This business model may not continue to be effective in the future for various reasons, including the following:
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click and conversion rates may decline as the number of advertisements and ad formats on the Web increases, making it less likely that a user will click on our advertisement;
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the installation of "filter" software programs by web users which prevent advertisements from appearing on their computer screens or in their email boxes may reduce click-throughs;
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companies may be reluctant or slow to adopt online advertising that replaces, limits or competes with their existing direct marketing efforts;
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companies may prefer other forms of Internet advertising we do not offer, including certain forms of search engine placements;
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companies may reject or discontinue the use of certain forms of online promotions that may conflict with their brand objectives;
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companies may not utilize online advertising due to concerns of "click-fraud", particularly related to search engine placements;
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regulatory actions may negatively impact certain business practices that we currently rely on to generate a portion of our revenue and profitability; and
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perceived lead quality.
If the number of companies who purchase online advertising from us does not grow, we will experience difficulty in attracting publishers, and our revenue will decline.
If we are unable to successfully keep pace with the rapid technological changes that may occur in the wireless communication, internet and e-commerce arenas, we could lose customers or advertising inventory and our revenue and results of operations could decline.
To remain competitive, we must continually monitor, enhance and improve the responsiveness, functionality and features of our services, offered both in our subscription and transactional and marketing activities. Wireless network and mobile phone technologies, the Internet and the online commerce industry in general are characterized by rapid innovation and technological change, changes in user and customer requirements and preferences, frequent new product and service introductions requiring new technologies to facilitate commercial delivery, as well as the emergence of new industry standards and practices that could render existing technologies, systems, business methods and/or our products and services obsolete or unmarketable in future fiscal periods. Our success in our business activities will depend, in part, on our ability to license or internally develop leading technologies that address the increasingly sophisticated and varied needs of prospective consumers, and respond to technological advances and emerging industry standards and practices on a timely-cost-effective basis. Website and other proprietary technology development entails significant technical and business risks, including the significant cost and time to complete development, the successful implementation of the application once developed, and time period for which the application will be useful prior to obsolescence. There can be no assurance that we will use internally developed or acquired new technologies effectively or adapt existing websites and operational systems to customer requirements or emerging industry standards. If we are unable, for technical, legal, financial or other reasons, to adopt and implement new technologies on a timely basis in response to changing market conditions or customer requirements, our business, prospects, financial condition and results of operations could be materially adversely affected.
We could be subject to legal claims, government enforcement actions, and be held accountable for our or our customers' failure to comply with federal, state and foreign laws, regulations or policies, all of which could materially harm our business.
As a direct-to-consumer marketing company, we are subject to a variety of federal, state and local laws and regulations designed to protect consumers that govern certain of aspects of our business. For instance, recent growing public concern regarding privacy and the collection, distribution and use of information about Internet users has led to increased federal, state and foreign scrutiny and legislative and regulatory activity concerning data collection and use practices. Any failure by us to comply with applicable federal, state and foreign laws and the requirements of regulatory authorities may result in, among other things, indemnification liability to our customers and the advertising agencies we work with, administrative enforcement actions and fines, class action lawsuits, cease and desist orders, and civil and criminal liability.
We are subject to continued listing requirements on the NASDAQ Global Market and if we are unable to meet such listing requirements, we could face delisting.
We are subject to continued listing requirements on the NASDAQ Global Market, which includes such criteria as a $1.00 minimum bid price requirement and minimum stockholders’ equity value of $10 million, as set forth in Listing Rule 5450(a)(1). As of December 31, 2010, the value of our stockholders’ equity is $8.2 million.
The value of our stockholders’ equity can be increased through equity financing or through additions to retained earnings (or reductions in accumulated deficit). We are actively seeking to engage in an equity financing, but there can be no assurance that we will be successful in this regard. If we are not successful in raising equity capital, or even if we are successful, if we continue to incur net losses (which will negatively impact the value of our stockholders’ equity), we are not likely to be able to meet or maintain the minimum stockholders’ equity value requirement to maintain our listing on the NASDAQ Global Market.
We do not intend to pay dividends on our equity securities.
It is our current and long-term intention that we will use all cash flows to fund operations and maintain excess cash requirements for the possibility of potential future acquisitions. Future dividend declarations, if any, will result from our reversal of our current intentions, and would depend on our performance, the level of our then current and retained earnings and other pertinent factors relating to our financial position. Prior dividend declarations should not be considered as an indication for the potential for any future dividend declarations.
System failures could significantly disrupt our operations, which could cause us to lose customers or content.
Our success depends on the continuing and uninterrupted performance of our systems. Sustained or repeated system failures that interrupt our ability to provide services to customers, including failures affecting our ability to deliver advertisements quickly and accurately and to process visitors' responses to advertisements, and, validate mobile subscriptions, would reduce significantly the attractiveness of our solutions to advertisers and Web publishers. Our business, results of operations and financial condition could also be materially and adversely affected by any systems damage or failure that impacts data integrity or interrupts or delays our operations. Our computer systems are vulnerable to damage from a variety of sources, including telecommunications failures, power outages, malicious or accidental human acts, and natural disasters. Through the end of 2010, we operated a data center in Canada (which we have begun the process of closing down and transferring data to servers owned by third parties in 2011) and have a co-location agreement with a service provider to support our operations. Therefore, any of the above factors affecting any of these areas could substantially harm our business. Moreover, despite network security measures, our servers are potentially vulnerable to physical or electronic break-ins, computer viruses and similar disruptive problems in part because we cannot control the maintenance and operation of our third-party data centers. Despite the precautions taken, unanticipated problems affecting our systems could cause interruptions in the delivery of our solutions in the future and our ability to provide a record of past transactions. Our data centers and systems incorporate varying degrees of redundancy. All data centers and systems may not automatically switch over to their redundant counterpart. Our insurance policies may not adequately compensate us for any losses that may occur due to any failures in our systems.
We have been named as a defendant in litigation, either directly, or indirectly, with the outcome of such litigation being unpredictable; a materially adverse decision in any such matter could have a material adverse effect on our financial position and results of operations.
As described under the heading “Commitments and Contingencies,” or "Legal Proceedings" in our periodic reports filed pursuant to the Securities Exchange Act of 1934, from time to time we are named as a defendant in litigation matters. The defense of these claims may divert financial and management resources that would otherwise be used to benefit our operations. Although we believe that we have meritorious defenses to the claims made in each and all of the litigation matters to which we have been a named party, whether directly or indirectly, and intend to contest each lawsuit vigorously, no assurances can be given that the results of these matters will be favorable to us. A materially adverse resolution of any of these lawsuits could have a material adverse effect on our financial position and results of operations.
We may incur liabilities to tax authorities in excess of amounts that have been accrued which may adversely impact our results of operations and financial condition.
As more fully described in Note 10, “Provision (Benefit) for Income Taxes” to our consolidated financial statements contained in annual report on Form 10-K, we have recorded significant income tax receivables. In November 2009 Congress passed the Worker Homeownership & Business Assistance Act of 2009 which allows businesses to carryback operating losses for up to 5 years. As a result of this Act we were able to carryback some of our 2009 taxable loss, resulting in a refund of $2.7 million, which was received in 2010. In the event that we are not able to successfully defend our tax positions, we may incur significant additional income tax liabilities and related interest and penalties which may have an adverse impact on our results of operations and financial condition.
If our efforts to attract prospective subscribers and to retain existing subscribers pertaining to our Kazaa business are not successful, our growth prospects and revenue will be adversely affected.
Our ability to grow our business and generate subscriber revenue depends on retaining and expanding our subscriber base. We must convince prospective listeners of the benefits of our service and existing listeners of the continuing value of our service.
Our ability to increase the number of our subscribers depends on effectively addressing a number of challenges and we may fail to do so. Some of these challenges include:
•
Providing subscribers with a consistent high quality, user-friendly and personalized experience;
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continuing to build our catalog of music content that our listeners enjoy; and
•
continuing to innovate and keep pace with changes in technology and our competitors.
We depend upon third-party licenses for musical works and a change to or loss of these licenses could increase our operating costs or adversely affect our ability to retain and expand our listener base, and therefore could adversely affect our business.
To secure the rights to stream musical works embodied in sound recordings over the internet, Brilliant Digital maintains licenses from or for the benefit of copyright owners and pays royalties to copyright owners or their agents. We reimburse Brilliant Digital for these royalty payments. These royalty payments represent a substantial cost in operating the Kazaa business. Those who own copyrights in musical works are vigilant in protecting their rights and seek royalties that are very high in relation to the revenue that can be generated from the public performance of such works. There is no guarantee that the licenses available to Brilliant Digital now will continue to be available in the future or that such licenses will be available at the royalty rates associated with the current licenses. If we or Brilliant Digital are unable to secure and maintain rights to stream musical works or if we cannot do so on terms that are acceptable to us, our ability to stream music content to our listeners, and consequently our ability to attract subscribers, will be adversely impacted.
In order to stream musical works embodied in sound recordings over the internet, we must obtain public performance licenses and pay license fees to three performing rights organizations: Broadcast Music, Inc., or BMI, SESAC, Inc., or SESAC, and the American Society of Composers, Authors and Publishers, or ASCAP. These organizations represent the rights of songwriters and music publishers, negotiate with copyright users such as Brilliant Digital, collect royalties and distribute those royalties to the copyright owners they represent, namely songwriters and music publishers. Performing rights organizations have the right to audit our playlists and royalty payments, and any such audit could result in disputes over whether we have paid the proper royalties. If such a dispute were to occur, we could be required to pay additional royalties and the amounts involved could be material.
If our security systems are breached, we may face civil liability and public perception of our security measures could be diminished, either of which would negatively affect our ability to attract listeners and advertisers.
Techniques used to gain unauthorized access are constantly evolving, and we may be unable to anticipate or prevent unauthorized access to data pertaining to our listeners, including credit card information and other personally identifiable information. If an actual or perceived breach of security occurs of our systems or a vendor’s systems, we may face civil liability and public perception of our security measures could be diminished, either of which would negatively affect our ability to attract subscribers. We also would be required to expend significant resources to mitigate the breach of security and to address related matters.
We cannot control the actions of third parties who may have access to the subscriber data we collect. If such third parties’ use of subscriber data is not in compliance with the terms of our privacy policies, or if they fail to prevent unauthorized access to, or use of or disclosure of, subscriber information, we could be hindered or prevented in our efforts with respect to future growth opportunities.
Any failure, or perceived failure, by us to maintain the security of data relating to our listeners and employees, to comply with our posted privacy policy, laws and regulations, rules of self-regulatory organizations, industry standards, and contractual provisions to which we may be bound, could result in the loss of confidence in us, or result in actions against us by governmental entities or others, all of which could result in litigation and financial losses, and could potentially cause us to lose listeners, advertisers, revenue, and employees.
We are subject to a number of risks related to credit card payments we accept.
We accept payments through credit card transactions. For credit card payments, we pay processing and other fees, which may increase over time. An increase in those fees would require us to either increase the prices we charge for our products, or suffer an increase in our operating expenses, either of which could adversely affect our business, financial condition and results of operations.
If we or any of our processing vendors have problems with our billing software, or the billing software malfunctions, it could have an adverse effect on our subscriber satisfaction and could cause one or more of the major credit card companies to disallow our continued use of their payment products. In addition, if our billing software fails to work properly and, as a result, we do not automatically charge our subscribers’ credit cards on a timely basis or at all, our business, financial condition and results of operations could be adversely affected.
We are also subject to payment card association operating rules, certification requirements and rules governing electronic funds transfers, which could change or be reinterpreted to make it more difficult for us to comply. We must remain fully compliant with the Payment Card Industry, or PCI, Data Security Standard, or PCI DSS, a security standard with which companies that collect, store, or transmit certain data regarding credit, credit card holders, and credit card transactions are required to comply. Our failure to comply fully with PCI DSS may violate payment card association operating rules, federal and state laws and regulations, and the terms of our contracts with payment processors and merchant banks. Such failure to comply fully also may subject us to fines, penalties, damages, and civil liability, and may result in the loss of our ability to accept credit card payments. Further, there is no guarantee that, even if PCI DSS compliance is achieved, we will maintain PCI DSS compliance or that such compliance will prevent illegal or improper use of our payment systems or the theft, loss, or misuse of data pertaining to credit and debit cards, credit and debit card holders and credit and debit card transactions.
If we fail to adequately control fraudulent credit card transactions, we may face civil liability, diminished public perception of our security measures and significantly higher credit card-related costs, each of which could adversely affect our business, financial condition and results of operations.
If we are unable to maintain our chargeback rate or refund rates at acceptable levels, credit card companies may increase our transaction fees or terminate their relationships with us. Any increases in such rates could adversely affect our results of operations, particularly if we elect not to raise our rates for our service to offset the increase. The termination of our ability to process payments on any major credit card would significantly impair our ability to operate our business.
We currently are operating our business with vacancies in several key executive positions including our Chief Executive Officer.
In order to effectively operate our business and effect the necessary growth to meet our financial needs, the company is required to continuously set key strategic objectives and develop strategies to meet these objectives. This function requires competent leadership within our organization. Due to recent turnover of key executives, we are currently operating with several vacancies in executive positions, including our President and Chief Executive Officer. If we are unable to attract and retain qualified officers to fill these rolls, our business, operating results and growth can be adversely affected.
ITEM 1B
ITEM 1B UNRESOLVED STAFF COMMENTS
Not applicable
ITEM 2.
ITEM 2. PROPERTIES
Atrinsic’s corporate headquarters are located at 469 7th Avenue, New York, NY.
The following table details the various properties leased and owned by us as of December 31, 2010.
The spaces listed above are adequate for our current needs and we believe suitable additional or substitute space will be available to accommodate the foreseeable expansion of our operations. Our owned property in Dieppe, Canada is not subject to a mortgage or any liens. Atrinsic’s telephone number is (212) 716-1977.
(a)
We terminated our lease agreement in the first quarter of 2011 pursuant to the Surrender of Lease Agreement for the former Traffix office located in Pearl River, New York. In consideration for the lease termination, the Company agreed to pay the landlord a cancellation fee of $0.2 million in the form of an unsecured note payable. The termination of this resulted in a reduction of 2011 operating lease payments of $0.3 million.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS.
On March 10, 2010, Atrinsic received final approval of its settlement of the Class Action in the case known as Allen v. Atrinsic, Inc. f/k/a New Motion, Inc., formerly pending in Los Angeles County Superior Court. This national settlement covers all of our mobile products, web sites and advertising practices through the date the final judgment was entered. All costs of the settlement and defense were accrued for in 2008; therefore this settlement did not impact our results of operations in 2009 or 2010. In addition to administrative costs and refunds, during the second quarter of 2010, we paid the $1.0 million settlement for the Class Action.
Because the terms of the settlement applied nationally, all other consumer class action cases pending against us were dismissed without payment of any monies.
On November 1, 2010, we received notice of final award from an arbitration panel relating to a Statement of Claim in an arbitration action against a past aggregator. As a result of that arbitration award, we recorded an aggregate gain on legal settlement of approximately $1.1 million in the third and fourth quarters of 2010. The terms of the award are confidential.
In November, 2009, we reached a settlement regarding a suit we had filed earlier that year against Mobile Messenger Americas, Inc. and Mobile Messenger Americas Pty, Ltd. (collectively Mobile Messenger) to recover monies owed us in connection with transaction activity incurred in the ordinary and normal course of business. The complaint also sought declaratory relief concerning demands made by Mobile Messenger for indemnification for amounts paid by Mobile Messenger in late 2008 in settlement of a class action lawsuit in Florida, Grey v. Mobile Messenger, et al. (the “Florida Class Action”). Mobile Messenger brought upon us a cross complaint, seeking injunctive relief, indemnification for the settlement of the Florida Class Action and other matters. The terms of the settlement are confidential, but in general resulted in a complete dismissal of the entire action, including the cross-complaint, with prejudice. Pursuant to the settlement agreement, independent auditors conducted an accounting of payments made to us by Mobile Messenger. In August, 2010, the independent auditors issued their report detailing their findings which Mobile Messenger disputed, and as dictated by the terms of the settlement agreement, the parties have engaged in arbitration. We expect this matter to be finalized in the second quarter of 2011. Any payments arising out of the settlement are not expected to have a material impact on our results from operations, beyond what we have already expensed and accrued for in 2009.
In the ordinary course of business, we are involved in various disputes, which are routine and incidental to the business and the industry in which we operate. In our opinion, the results of such disputes will not have a significant adverse effect on our financial position or results of operations. Of the approximately $5.2 million in total accrued expenses as of December 31, 2010, $0.3 million is associated with the legal contingencies disclosed above.
ITEM 4.
ITEM 4. Removed and Reserved
Part II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
On June 25, 2009, the Company changed its corporate name and ticker symbol from New Motion, Inc., (NWMO) to Atrinsic, Inc., (ATRN). Our common stock is quoted on The NASDAQ Global Market. The following table sets forth, for the periods indicated, the high and low sales prices for our common stock, as well as the total number of shares of common stock traded during the periods indicated. The following table reflects the high and low prices as reported by NASDAQ and adjusted for our December 2, 2010 1-for-4 reverse stock split.
As of March 31, 2011, there were approximately 141 record holders of common stock. As of March 31, 2011, the closing sales price of our common stock as reported on the NASDAQ Global Market was $3.59 per share. Our transfer agent is American Stock Transfer & Trust Company and their phone number is (718) 921-8275.
Dividend Policy
We do not anticipate paying any dividends on our common stock for the foreseeable future. We intend to retain any future earnings to re-invest in our ongoing business. The declaration of cash dividends in the future will be determined by our board of directors based upon our earnings, financial condition, capital requirements and other relevant factors.
Recent Sales of Unregistered Securities
During the 2010 fiscal year, other than as provided below, we did not sell unregistered securities.
On September 28, 2010, we issued 7,500 shares of our common stock to Barretto Pacific Corporation. The shares were issued in connection with certain advisory services provided by Barretto Pacific Corporation to us pursuant to a Services Agreement entered into between the parties on October 1, 2010.
On October 13, 2010, as described elsewhere in this report, we entered into amendments to our existing Marketing Services Agreement and Master Services Agreement with Brilliant Digital Entertainment, Inc. and entered into an agreement with Brilliant Digital and Altnet, Inc., a wholly-owned subsidiary of Brilliant Digital (collectively, “BDE”), to acquire all of the assets of BDE that relate to its Kazaa subscription based music service business. As consideration for entering into the amendments, we issued 1,040,358 shares of our common stock to Brilliant Digital.
In connection with the above stock issuances, we did not pay any underwriting discounts or commissions. None of the sales of securities described above was registered under the Securities Act of 1933, as amended (the "Securities Act"). No general solicitation or advertising was used in connection with the sales and the sales were made only to accredited investors. Each investor made representations that the shares were acquired for investment, for its own account, and without an intention of distributing the shares in violation of the Securities Act. In making the sales without registration under the Securities Act, we relied upon one or more of the exemptions from registration contained in Sections 4(2) of the Securities Act, and in Regulation D promulgated thereunder.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
Not required.
ITEM 7.
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Cautionary Statement
The following discussion and analysis should be read together with the Consolidated Financial Statements of Atrinsic, Inc. and the “Notes to Consolidated Financial Statements” included elsewhere in this report. This discussion summarizes the significant factors affecting the consolidated operating results, financial condition and liquidity and cash flows of Atrinsic, Inc. for the fiscal years ended December 31, 2010 and 2009. Except for historical information, the matters discussed in this Management’s Discussion and Analysis of Financial Condition and Results of Operations are forward-looking statements that involve risks and uncertainties and are based upon judgments concerning various factors that are beyond our control.
Executive Overview
Our business is focused on two key areas:
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Direct-to consumer subscriptions, built around the Kazaa brand, and
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Search and affiliate marketing, built around the Atrinsic Interactive brand.
Our direct-to-consumer subscription business is built around a recurring-revenue business model. We are focused on digital music in the rapidly growing mobile space, and our lead offering, Kazaa, is a recognizable brand in this market. We also provide alternative billing capabilities, allowing our subscribers to utilize payment methods other than just credit cards, to purchase our services. Our core strategic focus for Kazaa and our direct-to-consumer subscription business is to build and sustain a large and profitable subscriber base and a growing and engaged audience and to deliver entertainment content to our customers anywhere, anytime and on any device, in a manner our customers choose.
Atrinsic Interactive, our affiliate network and search marketing agency, is a top ten search agency according to Advertising Age (2010) and a top-tier affiliate network. We offer advertisers an integrated service offering across paid search, or search engine marketing (“SEM”), search engine optimization (“SEO”), display advertising, affiliate marketing, as well as offering business intelligence and brand protection services to our clients. We work with all types and sizes of advertisers on a performance basis to assist them in acquiring customers at an attractive return on investment. Our core strategic focus for Atrinsic Interactive is to build a leading independent search marketing agency and a top-five affiliate network.
See Item 1 -“Business,” for information on our history and background, what it is we do, including our financing activities and details on our ability to continue as a going concern, the contents of which are incorporated herein by reference.
Generally, our business principally serves two sets of customers - advertisers and consumers. Advertisers use our products and services to enhance their online marketing programs (Transactional revenue). Consumers subscribe to our entertainment services, like Kazaa to receive premium content on the Internet and on their mobile device (Subscriptions). Each of these business activities - Transactional and Subscriptions - may utilize the same originating media or derive a customer from the same source (e.g. search); the difference is reflected in the type of customer billing and in the service that is provided. In the case of Transactional revenue, which is primarily generated from our search marketing agency business, the billing is generally carried out on a service fee, percentage, or on a performance basis. For Subscriptions, the end user (the consumer) is able to access premium content and in return is charged a recurring monthly fee to a credit card, mobile phone, or land-line phone.
In managing our business, we internally develop marketing programs to match users with our service offerings or with those of our advertising clients. For Subscriptions, our prospects for growth are dependent on our ability to acquire subscribers in a cost effective manner, have those customers stay as paying subscribers and to provide content and services to those subscribers in a cost effective manner. For our search marketing agency business, our prospects for growth are dependent on our ability to sell our services to new advertisers, expand our existing customer relationships and to improve our margins. Results may also be impacted by economic conditions and the relative strengths and weakness of the U.S. economy, trends in the online marketing and telecommunications industry, including client spending patterns and increases or decreases in our portfolio of service offerings, including the overall demand for such offerings, competitive and alternative programs and advertising mediums, and risks inherent in our customer database, including customer attrition.
The principal components of our operating expense are labor, media and media related expenses (including media content costs, lead validation and affiliate compensation), product or content development and royalties or licensing fees, marketing and promotional expense (including sales commissions, customer service and customer retention expense) and corporate general and administrative expense. We consider our third party media cost and a portion of our operating cost structure to be predominantly variable in nature over a short time horizon, and as a result, we are immediately able to make modifications to this portion of our cost structure to what we believe to be increases or decreases in revenue and market trends. Conversely, a significant portion of our operating cost structure is considered to be predominantly fixed in nature over a short time horizon, making it more difficult to make modifications to this portion of our cost structure in response to increases or decreases in revenue and market trends. These factors are important in monitoring our performance in periods when revenues are increasing or decreasing.
In connection with our announcement to purchase the assets of the Kazaa digital music service, in November, 2010, we also undertook a restructuring of our existing operations to rapidly reduce certain expenditures. The restructuring involves the consolidation of all of our activities in New York and includes the closure of our Canadian technology facility and the retrenchment of approximately 40 employees in the U.S. and in Canada. In addition to the restructuring of our Canadian operations, which is substantially complete, we intend to transition the Kazaa functions and activities that are currently being carried out by personnel and contractors of Brilliant Digital, including development, backend and marketing operations, to the U.S. from Sydney, Australia.
Kazaa Music Service
Atrinsic and Brilliant Digital Entertainment, Inc. (“Brilliant Digital”) jointly offer the Kazaa digital music service pursuant to a Marketing Services Agreement and a Master Services Agreement between the two companies. Under the Marketing Services Agreement, we are responsible for marketing, promotional, and advertising services in respect of the Kazaa business. Pursuant to the Master Services Agreement, Atrinsic provides services related to the operation of the Kazaa business, including billing and collection services and the operation of the Kazaa online storefront. Brilliant Digital is obligated to provide certain other services with respect to the Kazaa business, including licensing the intellectual property underlying the Kazaa business to us, obtaining all licenses to the content offered as part of the Kazaa business and delivering that content to subscribers. As part of the agreements, we are required to make advance payments and expenditures in respect of certain expenses incurred in order to operate the Kazaa business. These advances and expenditures are recoverable on a dollar for dollar basis against revenues generated by the business. Since inception on July 1, 2009, and through December 31, 2010, we have contributed $11.8 million net of revenue and recouped funds.
Also in accordance with the original Marketing Service Agreement and Master Service Agreement, Atrinsic and Brilliant Digital were to share equally in the “Net Profit” generated by the Kazaa music subscription service after all of our costs and expenses have been recouped. For the year ending December 31, 2010, we have presented in our statement of operations, Kazaa revenue of $10.7 million and expenses incurred for the Kazaa music service of $18.7 million, offset by $0.4 million of reimbursements from Brilliant Digital. For the year ending December 31, 2009, we have presented in our statement of operations, Kazaa revenue of $2.7 million and expenses incurred for the Kazaa music service of $4.9 million, offset by $2.1 million of reimbursements from Brilliant Digital.
On October 13, 2010, we entered into amendments to our existing Marketing Services Agreement and Master Services Agreement with Brilliant Digital and entered into an agreement with Brilliant Digital to acquire all of the assets of Brilliant Digital that relate to its Kazaa subscription based music service business.
Among other things, the amendments extend the term of each of the Marketing Services Agreement and Master Services Agreement from three years to thirty years, provide us with an exclusive license to the Kazaa trademark in connection with our services under the agreements, and modify the Kazaa digital music service profit share payable to us under the agreements from 50% to 80%. In addition, the amendments remove Brilliant Digital’s obligation to repay up to $2.5 million of advances and expenditures which are not otherwise recovered from Kazaa generated revenues and remove the $5.0 million cap on expenditures that we are required to advance in relation to the operation of the Kazaa business. As consideration for entering into the amendments, we issued 1,040,358 unregistered shares of our common stock to Brilliant Digital.
The amendments to the Marketing Services Agreement and Master Services Agreement are part of a broader transaction between us and Brilliant Digital pursuant to which we will acquire all of the assets of Brilliant Digital that relate to its Kazaa digital music service business in accordance with the terms of an asset purchase agreement entered into between the parties. The purchase price for the acquired assets includes the issuance by us of an additional 1,781,416 unregistered shares of our common stock at the closing of the transactions contemplated by the asset purchase agreement as well as the assumption of certain liabilities related to the Kazaa business. The closing of the transactions contemplated by the asset purchase agreement will occur when all of the assets associated with the Kazaa business, including the Kazaa trademark and associated intellectual property, as well as Brilliant Digital’s content management, delivery and customer service platforms, and licenses with third parties, have been transferred to us. The closing of the transactions contemplated by the asset purchase agreement is subject to approval by our stockholders and the stockholders of Brilliant Digital, receipt of all necessary third party consents as well as other customary closing conditions. There is no guarantee that such approvals will be obtained. At the closing of the transactions contemplated by the asset purchase agreement, we have agreed to appoint two individuals to be selected by Brilliant Digital to serve on our Board of Directors. In addition, at the closing, each of the Marketing Services Agreement and Master Services Agreement will terminate.
Our Strategy
In order to build and sustain a large and profitable subscriber base and a growing and engaged audience and to deliver entertainment content to our customers anywhere, anytime and on any device, in a manner our customers choose, we are incurring media, product and distribution and marketing expenses to acquire customers today so that we can build a substantial subscriber base to generate subscription revenue in the future.
Merchandising, Content and Product Development. Our merchandising and product strategy is geared towards improving customer retention and increasing LTV. On an ongoing basis, we are enhancing the user experience on Kazaa through preference engine improvements, greater search capabilities and user interface modifications. Product development initiatives include the development of mobile browser optimization so that users of smart phones and other mobile devices can stream music directly from Kazaa.com without having to download an application. Our music service offered through Kazaa.com is a fully licensed digital music service. We pay rights’ holders’ royalties on tracks downloaded or streamed and our subscribers have access to millions of tracks. On Kazaa.com, subscribers can browse, search and listen to music and get detailed information on tracks and albums and rankings. Kazaa’s artist radio feature allows users to automatically generate deep and rich playlists based off of listener habits and preferences. We also utilize social media channels and multiple forms of communications to connect with our users in a relevant way to improve retention and encourage utilization.
Disciplined Approach to Marketing. We employ a multifaceted approach to generating subscribers for ourselves. We are focused on acquiring customers through multiple online distribution channels in a cost effective manner, including affiliate marketing, search, social media, display, email/SMS and organic traffic, or SEO. We look to optimize our marketing spend with respect to number of subscribers, revenue and costs. We also have a network of our own media, consisting of music, games and lifestyle websites and proprietary content to attract consumers. Our strategy is to improve the cost effectiveness of our customer acquisition by improving the attractiveness of our existing web properties and offerings and by employing innovative marketing techniques, to source and expand traffic. Our disciplined approach to marketing enables us to lower our customer acquisition costs, relative to the LTV of our subscribers.
Lead Validation and Billing Efficiency . We are pursuing a number of value enhancing strategies to increase the conversion of leads into subscribers of our direct-to-consumer subscription services. By validating the submission of online information through automated data lookups and validation, we are able to increase the value of a lead or visitor to our web sites. Such lead value enhancement techniques assist us in improving the conversion of users into subscribers to our direct-to-consumer subscription services and the corresponding increases in LTVs that result from more highly qualified subscribers.
Multiple Billing Platforms. As a direct result of being proficient in multiple billing platforms, we are able to create customer acquisition efficiencies because we can acquire direct subscribers and generate third-party leads. This provides us with a competitive advantage over traditional direct response marketers, who may only offer a single billing modality - credit cards. We have agreements through multiple aggregators who have access to U.S. carriers - both wireless and landline - for billing. These relationships include our 36% interest in TBR, which is an aggregator of fixed-line billing. In addition to agreements with aggregators, we also have an agreement in place with AT&T Wireless to distribute and bill for our services directly to subscribers on their network. As a result of our multiple billing protocols, we are able to expand our potential customer base, attracting consumers who may prefer a different billing mechanism than is traditionally offered. Many of our new product initiatives leverage and expand upon our alternative billing capabilities.
In order to build a leading independent search marketing agency and a top-five affiliate network, we are leveraging our multi-channel marketing expertise and technology to drive advertisers’ results.
Integrated Services and Performance Focus. In order to be a leading marketing agency, we are deploying innovative search engine optimization and search marketing techniques to attract users to our advertisers’ web sites. Our paid search team utilizes intelligent search tools to drive sales at the lowest cost for advertisers and our multi-channel path to conversions enables us to see the entire conversion funnel across any online marketing channel. Adding more services revenue will involve prospecting a targeted set of clients who are natural consumers of our services. Our initiatives include delivering an integrated suite of services, which include search engine marketing services, search engine optimization, display advertising, and affiliate marketing. Our ability to integrate brand protection and competitive intelligence is a source of differentiation and growth for our existing and new client base.
Technology Platforms. In order to be competitive in the area of online marketing services, particularly in search related marketing services and affiliate networking, we are continually improving our technology capabilities. Our affiliate marketing platform facilitates easy partnerships for advertisers and publishers to drive website traffic and is a transparent software platform, giving both parties access to high quality data. On our affiliate platform we use comprehensive reporting, trademark monitoring and proprietary business intelligence tools to aid advertisers in customer acquisition.
Results of Operations for the year ended December 31, 2010 compared to the year ended December 31, 2009.
Revenues presented by type of activity are as follows for the year ended December 31:
Revenues decreased approximately $29.1 million, or 42%, to $40.0 million for the year ended December 31, 2010, compared to $69.1 million for the year ended December 31, 2009.
Subscription revenue consists of content applications billed direct to consumers via mobile or land based telephone lines or credit card. These services are delivered through the Internet to PCs, or mobile phones, or through other Internet-connected devices. Subscription revenue decreased by approximately $3.2 million, or 15%, to $19.0 million for the year ended December 31, 2010, compared to $22.2 million for the year ended December 31, 2009. Subscription revenue for the year ended December 31, 2010 includes an increase in Kazaa revenue of $8.0 million compared to the year ended December 31, 2009, without which, our subscription revenue would have decreased by 50%, or $11.0 million year-over-year. As of December 31, 2010, the Company had approximately 205,000 subscribers, compared to 338,000 as of December 31, 2009. This decrease in subscribers was partly offset by a 22% increase in average revenue per user (“ARPU”) to approximately $6.11 for the year ended December 31, 2010, compared to the year ended December 31, 2009. The increase in ARPU was the result of the higher retail price point of the Kazaa digital music subscription service and improvements in billing efficiency. As of December 31, 2010, the Company has approximately 77,000 Kazaa subscribers. Relative to the approximately 80,000 Kazaa subscribers we had at the end of 2009, for all of 2010, we experienced a net decrease of 3,000 Kazaa subscribers (new subscriber additions, net of attrition).
Transactional revenue is principally derived from our search marketing agency business, which consists of targeted and measurable online campaigns and programs for advertisers, to generate qualified customer leads, sales transactions, or increased brand recognition. Transactional revenue decreased by approximately $25.8 million or 55% to $21.0 million for the year ended December 31, 2010 compared to $46.8 million for year ended December 31, 2009. The decrease in revenue was attributable to the loss of accounts and a reduction in discretionary advertising expenditures by our clients, as well as a result of a restructuring of our agency activities. Beginning in the second quarter, and substantially completed by the end of the third quarter, the Company took proactive steps to eliminate any unprofitable or marginally profitable lead generation campaigns and marketing programs from its Transactional offerings. These steps had the effect of curtailing lead generation sales volume, contributing to the decrease in revenue compared to the year ago period. As a result of this restructuring, the bulk of our Transactional revenue now consists of revenue generated from our search agency business, together with higher yielding marketing campaigns.
Operating Expenses
Cost of Media
Cost of Media - 3rd party decreased by $20.8 million to $22.5 million for the year ended December 31, 2010 from $43.3 million for the year ended December 31, 2009. Cost of Media - 3rd party includes media purchased for monetization of both Transactional and Subscription revenues. The decrease in Cost of Media - 3rd party was due to two primary factors. First, approximately 85% of the decrease in Cost of Media - 3rd party was due to the decline in Transactional related revenue which resulted in a corresponding reduction in purchased media. Second, the remaining 15% of the decrease in Cost of Media - 3rd party was due to significantly lower subscriber acquisition rates, and in turn, a lower number of subscribers acquired.
The rate of subscriber acquisitions is based on a number of factors, not least of which is subscriber acquisition cost, or “SAC.” During the year ended December 31, 2010, management moderated and limited the rate of subscriber acquisitions in response to (i) the need to preserve cash, (ii) changes in its alternative billing processes, and (iii) anticipated improvements and enhancements to the Kazaa digital music service.
During the year ended December 31, 2010, the Company added approximately 396,000 new subscribers, over half of which were Kazaa subscribers. This level of customer acquisition was not sufficient to replace the Company’s existing subscriber base during the year: “Net Adds,” which represents the number of subscribers acquired, net of subscriber attrition, which was a negative 133,000 for the year ended December 31, 2010. Cost of media for the year ended December 31, 2010 includes an increase in Kazaa-related Cost of Media - 3rd party of $2.3 million compared to the year ended December 31, 2009. We anticipate that our share of the future cash flows of the Kazaa music service to exceed these Kazaa cost of media expenses, although there can be no assurance of this.
During 2010, the Company estimates that its SAC per subscriber was approximately $15.34, which reflects a 10% increase in SAC from the year ago period. SAC is dependent on a number of factors, including prevailing market conditions, the type of media, and the ability of the Company to convert leads into subscribers. The Company expects that SAC will fluctuate from period to period based on all of these factors. Management will continue to monitor SAC closely to ensure that the Company acquires customers in a cost effective manner for both its transactional and subscription services. Because of its strictly variable nature, this decrease was proportionately correlated to the decline in the related revenue.
Product and Distribution
Product and distribution expense increased by $9.7 million to $20.2 million in the year ended December 31, 2010 as compared to $10.5 million for the year ended December 31, 2009. Product and distribution expenses are costs necessary to provide licensed content and development and support for our products, websites and technology platforms - which drive both our Transactional and Subscription-based revenues. Compared to the year ended December 2009, in the year ended December 31, 2010 we experienced higher product and distribution expenses of $10.2 million as a result of costs incurred to further develop the Kazaa music service and greater royalty and license expense payable to content owners, also associated with Kazaa. We anticipate that our share of the future cash flows of the Kazaa music service to exceed these Kazaa product and distribution expenses, although there can be no assurance of this. This increase in costs related to Kazaa was partly offset by decreases in staffing costs as we have reduced the number of employees companywide during 2010. Included in product and distribution cost is stock compensation expense of $54,000 and $111,000 for the years ended December 31, 2010 and 2009, respectively.
Selling and marketing
Selling and marketing expense decreased by $4.4 million to $4.0 million in the year ended December 31, 2010 as compared to $8.4 million for the year ended December 31, 2009. The decrease is primarily due to a reduction in salaries and other marketing costs, in accordance with the decrease in our revenue over the same period. Included in selling and marketing cost is stock compensation expense of $43,000 for the year ended December 31, 2010.
General, Administrative and Other Operating
General and administrative expenses decreased by approximately $5.6 million to $9.1 million for the year ended December 31, 2010 compared to $14.7 million for the year ended December 31, 2009. The decrease is primarily due to a reduction in workforce, and associated savings, a decrease in professional fees and other efforts to reduce the Company’s overall levels of overhead. The rate of decrease in general, administrative and other operating expense, on a year-over-year basis, is slower than for some other components of operating expenses because of the fixed nature of general and administrative costs, relative to the more variable based costs inherent in other categories of operating expense. Included in general and administrative expense is stock compensation expense of $1.0 million and $0.7 million for the year ended December 31, 2010 and 2009.
Depreciation and amortization
Depreciation and amortization expense decreased $2.1 million to $1.6 million for the year ended December 31, 2010 compared to $3.7 million for the year ended December 31, 2009 as a result of a reduction in amortization for intangibles, due to the fact that we recorded an impairment charge of $4.1 million at December 31, 2009. This was partly offset by an increase in depreciation due to a write-off of $0.4 million in property, plant and equipment related to the decision to shut down the Canada facility.
Impairment of Goodwill and Intangible Assets
The Company conducts its annual impairment test in the fourth quarter of the year, unless an event occurs prior to the fourth quarter that would more likely than not reduce the fair value of the Company below its carrying amount. In connection with our annual indefinite lived intangible asset impairment testing conducted in the fourth quarter, and for the year ended December 31, 2010, we determined there was impairment of the carrying value of indefinite lived intangible assets and recorded a non-cash charge of $1.5 million compared to an impairment charge of $2.0 million in 2009. In 2009, goodwill of $13.1 million was also impaired. The goodwill and indefinite lived intangibles impairment, the majority of which is not deductible for income tax purposes, is primarily due to our declining market price, reduced expectations for future operating results and reduced valuation multiples. Such negative factors are reflected in our stock price and market capitalization.
As a result of significant adverse changes in the business climate, the Company concluded that triggering events had occurred and the Company tested long-lived assets for impairment as of December 31, 2010 and 2009. The Company determined the fair value of such long lived assets and recognized an impairment charge of $3.4 million and $2.2 million for the years ended December 31, 2010 and 2009 respectively.
Loss from Operations
Operating loss decreased to approximately $22.3 million for the year ended December 31, 2010 compared to $28.9 million for the year ended December 31, 2009. Excluding the effect of intangible asset impairment in 2010 and 2009, operating loss increased to approximately $17.4 million for the year ended December 31, 2010, compared to $11.6 million for the year ended December 31, 2009. The higher operating loss is the result of the revenue decrease, together with proportionately higher product and distribution expense offset by an improvement in the Cost of Media - 3rd party margin, selling and marketing expenses and general and administrative expenses.
Interest income and dividends
Interest and dividend income decreased approximately $62,000 to $10,000 for the year ended December 31, 2010, compared to $72,000 for the year ended December 31, 2009. The reduction is mainly due to a decrease in the balances of cash and marketable securities at December 31, 2010 compared to December 31, 2009, as well as a reduction in the rate of return on invested capital.
Interest expense
Interest expense was $16,000 for the year ended December 31, 2010 compared to $76,000 for the year ended December 31, 2009.
Other Income
Other income was $1.7 million for the year ended December 31, 2010 compared to other income of $5,000 for the year ended December 31, 2009. Other income for 2010 was principally comprised of legal settlements and awards (see “Item 3 - Legal Proceedings”)
Income Taxes
Income tax (benefit) expense, before noncontrolling interest and equity in loss (income) of investee, for the year ended December 31, 2010 and 2009 was $(1.1) million and $0.6 million, respectively and reflects an effective tax rate of (5.2)% and 2.2% respectively. The effective tax rates were computed taking into consideration non-deductible impairment charges of $12.1 million for 2009, and the change in the income tax valuation allowance of $8.2 million and $11.1 million for 2010 and 2009, respectively.
Equity in (Loss) Income of Investee
Equity in loss of investee was $183,000 net of taxes at December 31, 2010 compared to equity in income of $59,000 for the year ended December 31, 2009, and represents our 36% interest in The Billing Resource, LLC (TBR).
Net Loss Attributable to Noncontrolling Interest
Net loss attributable to noncontrolling interest was $28,000 for the year ended December 31, 2009. This related to our investment in MECC which was dissolved in June 2009.
Net Loss Attributable to Atrinsic, Inc.
Net loss attributable to Atrinsic Inc., decreased by $9.8 million to $19.7 million for the year ended December 31, 2010 as compared $29.5 million for the year ended December 31, 2009. This decrease resulted from the factors described above.
Liquidity and Capital Resources
We continually project anticipated cash requirements, which may include business combinations, capital expenditures, and working capital requirements. As of December 31, 2010, we had cash and cash equivalents of approximately $6.3 million and working capital of approximately $2.1 million. We used approximately $11.2 million in cash for operations during the year ended December 31, 2010 and, contingent on prospective operating performance may require reductions in discretionary variable costs and other realignments to permanently reduce fixed operating costs. We generated $0.7 million in cash from investing activities, principally from a return of capital from The Billing Resource. Cash used in financing activities was minimal during the fiscal year ended December 31, 2010.
In order to fund operations, we need to raise additional capital. We are currently working with an independent financial advisory firm to assist us in structuring a financing and to engage an investment bank to raise debt or equity capital to fund our immediate cash needs and to finance our longer term growth to further develop the Kazaa business and grow our subscriber base. We currently have no formal arrangements with respect to additional financing in place and there is no guaranty funding will be available on favorable terms or at all. If we cannot obtain such funds, we will need to significantly curtail or cease our operations. In addition, the sale of additional equity securities or convertible debt could result in dilution to our stockholders.
We continue to evaluate the sale of certain of our assets and businesses. We cannot provide any assurance that we will be successful in finding suitable purchasers for the sale of such assets. Even if we are able to find purchasers, we may not be able to obtain attractive terms and conditions for such sales, including attractive pricing. In addition, divestitures of businesses involve a number of risks, including the diversion of management and employee attention, significant costs and expenses, the loss of customer relationships, a decrease in revenues associated with the divested business, and the disruption of operations in the affected business. Furthermore, divestitures potentially involve significant post-closing separation activities, which could involve the expenditure of significant financial and employee resources. An inability to consummate identified asset sales or manage the post-separation transition arrangements could adversely affect our business, financial condition, results of operations and cash flows.
There is substantial doubt about our ability to continue as a going concern. Our consolidated financial statements included in this Annual Report on Form 10-K are prepared using accounting principles generally accepted in the United States of America applicable to a going concern, which contemplates the realization of assets and liquidation of liabilities in the normal course of business. The historical consolidated financial statements included in this Annual Report on Form 10-K do not include any adjustments that might be necessary if we are unable to continue as a going concern. The report of our independent registered public accountants, KPMG LLP, includes an explanatory paragraph related to our ability to continue as a going concern.
The assessment of our ability to continue as a going concern was made by management considering, among other factors: (i) our current levels of expenditures, including subscriber acquisition costs, operating expense, including product development, and overhead, (ii) our ongoing working capital needs, (iii) the uncertainty concerning the outcome of any financing, (iv) our fiscal year net loss of $19.7 million and $29.5 million for the years ending December 31, 2010 and 2009, respectively, (v) our $11.2 million and $3.0 million of cash used for operating activities during the years ending December 31, 2010 and 2009, respectively, (vi) the outstanding balance of cash and cash equivalents of $6.3 million as of December 31, 2010, and (vii) our budgets and financial projections of future operations, including the likelihood of achieving operating profitability without the need for additional financing.
For periods subsequent to December 31, 2010, we expect losses to continue if we continue expenditures to develop the Kazaa service, acquire subscribers for the Kazaa digital music service, and are not able to reduce other operating expenses and overhead sufficiently to a level in line with our level of revenues. If we are unable to increase revenues sufficiently or decrease our expenditures to a sustainable level, our financial position, results of operations, cash flows and liquidity will continue to be materially adversely affected. These conditions raise substantial doubt about our ability to continue as a going concern.
Based on current financial projections, we believe the continuation of our Company as a going concern is primarily dependent on our ability to, among other factors: (i) consummate a suitable financing, or obtain financing from the sale of our assets or lines of business, (ii) scale our Kazaa subscriber base to a level where the monthly revenue generated from our subscriber base exceeds subscriber acquisition costs, net of expenses required to operate Kazaa, (iii) continue to generate revenue from our legacy subscription products without billing or service disruption, (iv) eliminate or reduce operating and overhead expenditures to a level more in line with our revenue, (v) improve utilization of the Kazaa digital music service and improve LTVs of subscribers to that service, and (vi) acquire profitable subscribers to the Kazaa digital music service at cost effective rates, (vii) grow our search marketing agency revenue base through the addition of new customers or expansion of business with existing customers and, (viii) expand margins in our search marketing agency and on our affiliate platform. While we address these operating matters, we must continue to meet expected near-term obligations, including normal course operating cash requirements and costs associated with developing and operating the Kazaa digital music service, as well as funding overhead and the working capital needs of our other businesses. If we are not able to obtain sufficient funds through a financing, or if we experience adverse outcomes with respect to our operational forecasts, our financial position, results of operations, cash flows and liquidity will continue to be materially adversely affected. See Item 1A - “Risk Factors” included in this Annual Report on Form 10-K regarding additional risks we face with respect to these matters.
In the near term, we are focused on: (i) raising debt or equity capital to fund our immediate cash needs and to finance our longer term growth to further develop the Kazaa business and grow our subscriber base, and (ii) pursuing various means to minimize operating costs and increase cash. We cannot provide assurance that we will be able to realize the cost reductions in our operations, or that we can obtain additional cash through asset sales or the issuance of equity. If we are unsuccessful in our efforts we will be required to further reduce our operations, including further reductions of our employee base, or we may be required to cease certain or all of our operations in order to offset the lack of available funding.
Critical Accounting Policies and Estimates
Principles of Consolidation
The consolidated financial statements include the accounts of all majority and wholly-owned subsidiaries and significant intercompany balances and transactions have been eliminated.
The equity method is used to account for investments in entities in which we have an ownership of less than 50% and have significant influence over the operating and financial policies of the affiliate.
Use of Estimates
The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue and expenses as well as the disclosure of contingent assets and liabilities. Management continually evaluates its estimates and judgments including those related to allowances for doubtful accounts, useful lives of property, plant and equipment and intangible assets, fair value of stock options granted, forfeiture rate of equity based compensation grants, probable losses associated with pre-acquisition contingencies, income taxes and other contingencies. Management bases its estimates and judgments on historical experience and other factors that are believed to be reasonable in the circumstances. Actual results may differ from those estimates. Macroeconomic conditions may directly, or indirectly through our business partners and vendors, impact our financial performance and available resources. Such conditions may, in turn, impact the aforementioned estimates and assumptions. Management has discussed the development, selection and disclosure of these estimates and assumptions with the Audit Committee of the Board of Directors.
Accounts Receivable and Related Allowances
The Company maintains allowances for doubtful accounts for estimated losses which may result from the inability of its customers to make required payments. The Company bases its allowances on the likelihood of recoverability of accounts receivable by customer, based on past experience, the age of the accounts receivable balance, the credit quality of the Company’s customers, and, taking into account current collection and economic trends. If specific customer circumstances change or industry trends worsen beyond the Company’s estimates, the Company would be required to increase its allowances for doubtful accounts. Alternatively, if trends improve beyond the Company’s estimates, the Company would be required to decrease its allowance for doubtful accounts. The Company’s estimates are reviewed periodically, and adjustments are reflected through bad debt expense in the period they become known. Changes in the Company’s bad debt experience can materially affect its results of operations.
The Company also makes estimates for refunds and provides for these probable uncollectible amounts through a reduction of recorded revenues in the period for which the sale occurs, based on analyses of historical trends as well as an evaluation of the impact of current and projected economic conditions.
The Company effectuates its subscription revenues through a carrier or distributors who are paid a transaction fee for their services. Due to the payment terms of the carriers requiring in excess of 60 days from the date of billing or sale, at its sole discretion, the Company can elect to use trade discounts in order to facilitate quicker payment. This discount or fee allows for payments of approximately 80% of the prior month’s billings 15 to 20 days after the end of the month. The Company records revenue net of that fee, if incurred, which is 3.5% to 5% of the associated revenue.
Goodwill and Intangible Assets
Goodwill represents the excess of cost over fair value of net assets of businesses acquired. In accordance with ASC 350 formerly Statement of Financial Accounting Standards No. 142 (“SFAS 142”) “Goodwill and Other Intangible Assets”, the value assigned to goodwill and indefinite lived intangible assets is not amortized to expense, but rather it is evaluated at least on an annual basis to determine if there is a potential impairment. If the fair value of the reporting unit is less than its carrying value, an impairment loss is recorded to the extent that the implied fair value of the reporting unit goodwill is less than the carrying value. If the fair value of an indefinite lived intangible is less than its carrying amount, an impairment loss is recorded. Fair value is determined based on discounted cash flows, market multiples or appraised values as appropriate. Discounted cash flow analysis requires assumptions about the timing and amount of future cash inflows and outflows, risk, the cost of capital, and terminal values. Each of these factors can significantly affect the value of the intangible asset. The estimates of future cash flows, based on reasonable and supportable assumptions and projections, require management’s judgment. Any changes in key assumptions about the Company’s businesses and their prospects, or changes in market conditions, could result in an impairment charge. Some of the more significant estimates and assumptions inherent in the intangible asset valuation process include: the timing and amount of projected future cash flows; the discount rate selected to measure the risks inherent in the future cash flows; and the assessment of the asset’s life cycle and the competitive trends impacting the asset, including consideration of any technical, legal or regulatory trends.
The Company has determined that there was an impairment of the carrying value of goodwill for the fiscal year ended December 31, 2009, and non-amortizable intangible assets in each of the fiscal years ended December 31, 2010 and 2009 as a result of completing annual impairment analysis for such periods. In performing the related valuation analysis the company used various valuation methodologies including probability weighted discounted cash flows, comparable transaction analysis, and market capitalization and comparable company multiple comparison. The results of this review and impact of the impairment are more fully described in Note 6 to the Consolidated Financial Statements - “Goodwill and Intangible Assets”.
Intangible assets subject to amortization primarily consist of customer lists, trade names and trademarks, and restrictive covenants that were acquired. The intangible asset values assigned to the identified assets for each acquisition were generally determined based upon the expected discounted aggregate cash flows to be derived over the estimated useful life. The intangible assets are amortized in a manner that reflects the pattern of the projected net cash inflows to the Company that are expected to occur, or when such pattern does not exist, using the straight-line basis over their respected estimated useful lives. The Company reviews the recoverability of its finite-lived intangible assets for recoverability whenever events or circumstances indicate that the carrying amount of an asset may not be recoverable.
The Company has determined that there was an impairment of intangible assets during the fourth quarters of 2010 and 2009. The results of this assessment are more fully described in Note 6 of the Company’s Financial Statement - “Goodwill and Intangible Assets.”
Stock-Based Compensation
The Company records stock based compensation in accordance with ASC 718 formerly Financial Accounting Standard Board Statement of Financial Accounting Standards No. 123 (revised 2004). In estimating the grant date fair value of stock option awards and performance based restricted stock, we use the Black Scholes option pricing model where appropriate. The key assumptions for this models to derive fair value include expected term, rate of risk free returns and volatility. If different assumptions and estimates were used, the amounts charged to compensation expense would be different.
Revenue Recognition
In accordance with ASC 605 and SEC Accounting Bulletin 104, the Company monetizes a portion of its user activities through subscription based sources by providing on-going monthly access to and usage of premium products and services. In general, customers are billed at standard rates, during the month, and revenues are recognized upon receipt of information confirming an arrangement in that same month. The Company estimates a provision for refunds and credits which is recorded as a reduction to revenues. In determining the estimate for refunds and credits, the Company relies upon historical data, contract information and other factors. The estimated provision for refunds can vary from actual results.
The Company effectuates its subscription revenues through a carrier or distributors who are paid a transaction fee for their services. In accordance with ASC 605 formerly Emerging Issues Task Force (“EITF” No 99-19) “Reporting Revenues Gross as Principal Versus Net as an Agent”, the Company recognizes as revenues the net amount received from the carrier or distributor, net of their fee.
The Company monetizes a portion of its user activities through transactional based services generated primarily from (a) fees earned, primarily on a Cost Per Click basis, from search syndication services; (b) fees earned for the Company's search engine marketing ("SEM") services; and (c) other fees for marketing services including data and list management services, which can be either periodic or transactional. Commission fee revenue is recognized in the period that the Company's advertiser customer generates a sale or other agreed-upon action on the Company's affiliate marketing networks or as a result of the Company's SEM services, provided that no significant Company obligations remain, collection of the resulting receivable is reasonably assured, and the fees are fixed or determinable. All transaction services revenues are recognized on a gross basis in accordance with the provisions of ASC 605-45, due to the fact that the Company is the primary obligor and bears all credit risk to its customer, and publisher expenses that are directly related to a revenue-generating event are recorded as a component of 3rd part Media Cost.
Income Taxes
The Company uses the asset and liability method of financial accounting and reporting for income taxes required by ASC 740 formerly Statement of Financial Accounting Standards No. 109 (“SFAS 109”), “Accounting for Income Taxes”. Under ASC 740, deferred income taxes reflect the tax impact of temporary differences between the amount of assets and liabilities recognized for financial reporting purposes and the amounts recognized for tax purposes.
We maintain valuation allowances where it is more likely than not that all or a portion of a deferred tax asset will not be realized.
Under ASC 740-10-25 the Company classifies interest expense and penalties related to unrecognized tax benefits as income tax expense. ASC 740 clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements in accordance with ASC 740 and prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. The evaluation of a tax position in accordance with this Interpretation is a two-step process. The first step is recognition, in which the enterprise determines whether it is more likely than not that a tax position will be sustained upon examination, including resolution of any related appeals or litigation processes, based on the technical merits of the position. The second step is measurement. A tax position that meets the more-likely-than-not recognition threshold is measured to determine the amount of benefit to recognize in the financial statements.
The Company and its subsidiaries file income tax returns in the U.S and Canada. The Company is subject to federal, state and Canadian examinations. The statute of limitations for 2007 through 2009 in all jurisdictions (except California includes 2006 through 2009) remain open and income tax returns filed for such periods are subject to potential examination by tax authorities.
Contractual Obligations and Off-Balance Sheet Arrangements
At December 31, 2010, the Company did not have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes. As such, the Company is not exposed to any financing, liquidity, market or credit risk that could arise if it had engaged in such relationships.
The following table shows the Company’s future commitments for future minimum lease payments required under operating leases that have remaining non cancellable lease terms in excess of one year, future commitments under investment and marketing agreements and future commitments under employment agreements as of December 31, 2010:
Subsequent to December 31, 2010, the Company entered into a surrender of lease agreement with its landlord for the former Traffix office located in Pearl River, New York. In consideration for the lease termination, the Company agreed to pay the landlord a cancellation fee of $0.2 million in the form of an unsecured note payable. The termination of this resulted in a reduction of 2011 operating lease payments of $0.3 million. The table above does not reflect any obligation relating to this lease.
Recent Accounting Pronouncements
Adopted in 2010
In September 2009, the FASB issued SFAS No. 167, “Amendments to FASB Interpretation No. 46(R)” (“SFAS No. 167”) which has been superseded by the FASB Codification and included in ASC 810 to require an enterprise to perform an analysis to determine whether the enterprise’s variable interest or interests give it a controlling financial interest in a variable interest entity. This analysis identifies the primary beneficiary of a variable interest entity as one with the power to direct the activities of a variable interest entity that most significantly impact the entity’s economic performance and the obligation to absorb losses of the entity that could potentially be significant to the variable interest. These revisions to ASC 810 are effective as of January 1, 2010 and the adoption of these revisions to ASC 810 had no impact on our results of operations or financial position.
Not Yet Adopted
In October 2009, FASB approved for issuance Emerging Issues Task Force (EITF) issue 08-01, Revenue Arrangements with Multiple Deliverables which has been superseded by the FASB codification and included in ASC 605-25. This statement provides principles for allocation of consideration among its multiple-elements, allowing more flexibility in identifying and accounting for separate deliverables under an arrangement. The EITF introduces an estimated selling price method for valuing the elements of a bundled arrangement if vendor-specific objective evidence or third-party evidence of selling price is not available, and significantly expands related disclosure requirements. This standard is effective on a prospective basis for revenue arrangements entered into or materially modified in fiscal years beginning on or after September 15, 2010. Alternatively, adoption may be on a retrospective basis, and early application is permitted. The Company is currently evaluating the impact of adopting this pronouncement.
In December 2010, the FASB issued ASU 2010-28, Intangibles - Goodwill and Other (Topic 350): When to Perform Step 2 of the Goodwill Impairment Test for Reporting Units with Zero or Negative Carrying Amounts (“ASU 2010-28”). Upon adoption of ASU 2010-28, an entity with reporting units that have carrying amounts that are zero or negative is required to assess the likelihood of the reporting units’ goodwill impairment. ASU 2010-28 is effective January 1, 2011 and we do not believe that the adoption of ASU 2010-28 will have a significant impact on our results of operations and financial position.
ITEM 7A.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not required.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Stockholders
Atrinsic, Inc. and subsidiaries:
We have audited the accompanying consolidated balance sheets of Atrinsic, Inc. and subsidiaries, as of December 31, 2010 and 2009, and the related consolidated statements of operations, stockholders’ equity, comprehensive loss, and cash flows for the years then ended. These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with auditing standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Atrinsic, Inc. and subsidiaries as of December 31, 2010 and 2009, and the results of their operations and their cash flows for each of the years then ended in conformity with U.S. generally accepted accounting principles.
The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in note 3 to the consolidated financial statements, the Company has suffered recurring losses from operations that raise substantial doubt about its ability to continue as a going concern. Management’s plans in regard to these matters are also described in note 3. The consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty.
/s/ KPMG LLP
New York, New York
April 7, 2011
ATRINSIC, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
As of December 31,
(Dollars in thousands except share data)
All outstanding share amounts have been retroactively restated to reflect Atrinsic, Inc.’s December 2010 1-for-4 Reverse Stock Split. See Note 9, “Stockholders’ Equity”.
The accompanying notes are an integral part of these consolidated statements.
ATRINSIC, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
Years ended December 31,
(Dollars in thousands, except share and per share data)
All outstanding share and per share amounts have been retroactively restated to reflect Atrinsic, Inc.’s December 2010 1-for-4 Reverse Stock Split. See Note 9, “Stockholders’ Equity”.
The accompanying notes are an integral part of these consolidated statements
ATRINSIC, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS
Years Ended December 31,
(Dollars in thousands)
The accompanying notes are an integral part of these consolidated statements.
ATRINSIC, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF EQUITY
Years Ended December 31,
(Dollars in thousands, except share data)
All outstanding share and per share amounts have been retroactively restated to reflect Atrinsic, Inc.’s December 2010 1-for-4 Reverse Stock Split. See Note 9, “Stockholders’ Equity”.
The accompanying notes are an integral part of these consolidated statements.
ATRINSIC, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31,
(Dollars in thousands)
The accompanying notes are an integral part of these consolidated statements.
NOTE 1 - Nature of Operations
Atrinsic is a direct marketing company based in the United States. Atrinsic has two main service offerings, transactional services and subscription services. Transactional services offers full service online marketing and distribution services which are targeted and measurable online campaigns and programs for marketing partners, corporate advertisers, or their agencies, generating qualified customer leads, online responses and activities, or increased brand recognition. Subscription services offer our portfolio of subscription based content applications direct to users working with wireless carriers and other distributors.
NOTE 2 - Summary of Significant Accounting Policies
Principles of Consolidation
The consolidated financial statements include the accounts of all majority and wholly-owned subsidiaries and significant intercompany balances and transactions have been eliminated.
The equity method is used to account for investments in entities in which we have an ownership of less than 50% and have significant influence over the operating and financial policies of the affiliate.
Use of Estimates
The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue and expenses as well as the disclosure of contingent assets and liabilities. Management continually evaluates its estimates and judgments including those related to allowances for doubtful accounts, useful lives of property, plant and equipment and intangible assets, fair value of stock options granted, forfeiture rate of equity based compensation grants, probable losses associated with pre-acquisition contingencies, income taxes and other contingencies. Management bases its estimates and judgments on historical experience and other factors that are believed to be reasonable in the circumstances. Actual results may differ from those estimates. Macroeconomic conditions may directly, or indirectly through our business partners and vendors, impact our financial performance and available resources. Such conditions may, in turn, impact the aforementioned estimates and assumptions.
Segment Reporting
The Company has determined it operates in one operating segment. Operating segments are components of an enterprise for which separate financial information is available and is evaluated regularly by the Company in deciding how to allocate resources and in assessing performance. The business model is centered around the monetization of user activities either online, mobile, or other. The Company monetizes that activity on either a subscription basis (i.e. Subscription Services) or on a transactional basis (i.e. Transactional Services) largely at the discretion of the Chief Operating Decision Maker and discrete financial information by source of monetization is not available.
Foreign Currency Translation
The Company has a wholly owned subsidiary based in Canada which is included in the Company’s consolidated financial statements. The subsidiary’s financials are reported in Canadian dollars and translated in accordance with FASB Accounting Standards Codification (“ASC”) 830. Assets and liabilities for these foreign operations are translated at the exchange rate in effect at the balance sheet date, and income and expenses are translated at average exchange rates prevailing during the period. We include accumulated net translation adjustments in stockholders’ equity as a component of accumulated other comprehensive loss.
Cash and Cash Equivalents
The Company considers all highly liquid instruments purchased with a maturity of less than three months to be cash equivalents. The carrying amount of cash equivalents approximates fair value because of the short-term maturity of these instruments.
Accounts Receivable and Related Allowances
The Company maintains allowances for doubtful accounts for estimated losses which may result from the inability of its customers to make required payments. The Company bases its allowances on the likelihood of recoverability of accounts receivable by customer, based on past experience, the age of the accounts receivable balance, the credit quality of the Company’s customers, and, taking into account current collection and economic trends. If specific customer circumstances change or industry trends worsen beyond the Company’s estimates, the Company would be required to increase its allowances for doubtful accounts. Alternatively, if trends improve beyond the Company’s estimates, the Company would be required to decrease its allowance for doubtful accounts. The Company’s estimates are reviewed periodically, and adjustments are reflected through bad debt expense in the period they become known. Changes in the Company’s bad debt experience can materially affect its results of operations.
Goodwill and Intangible Assets
Goodwill represents the excess of cost over fair value of net assets of businesses acquired. In accordance with ASC 350 formerly Statement of Financial Accounting Standards No. 142 (“SFAS 142”) “Goodwill and Other Intangible Assets”, the value assigned to goodwill and indefinite lived intangible assets is not amortized to expense, but rather it is evaluated at least on an annual basis to determine if there is a potential impairment. If the fair value of the reporting unit is less than its carrying value, an impairment loss is recorded to the extent that the implied fair value of the reporting unit goodwill is less than the carrying value. If the fair value of an indefinite lived intangible is less than its carrying amount, an impairment loss is recorded. Fair value is determined based on discounted cash flows, market multiples or appraised values as appropriate. Discounted cash flow analysis requires assumptions about the timing and amount of future cash inflows and outflows, risk, the cost of capital, and terminal values. Each of these factors can significantly affect the value of the intangible asset. The estimates of future cash flows, based on reasonable and supportable assumptions and projections, require management’s judgment. Any changes in key assumptions about the Company’s businesses and their prospects, or changes in market conditions, could result in an impairment charge. Some of the more significant estimates and assumptions inherent in the intangible asset valuation process include: the timing and amount of projected future cash flows; the discount rate selected to measure the risks inherent in the future cash flows; and the assessment of the asset’s life cycle and the competitive trends impacting the asset, including consideration of any technical, legal or regulatory trends.
The Company has determined that there was an impairment of the carrying value of goodwill for the fiscal year ended December 31, 2009, and non-amortizable intangible assets in each of the fiscal years ended December 31, 2010 and 2009 as a result of completing annual impairment analysis for such periods. In performing the related valuation analysis the company used various valuation methodologies including probability weighted discounted cash flows, comparable transaction analysis, and market capitalization and comparable company multiple comparison. The results of this review and impact of the impairment are more fully described in Note 6 - “Goodwill and Intangible Assets”.
Intangible assets subject to amortization primarily consist of customer lists, trade names and trademarks, and restrictive covenants that were acquired. The intangible asset values assigned to the identified assets for each acquisition were generally determined based upon the expected discounted aggregate cash flows to be derived over the estimated useful life. The intangible assets are amortized in a manner that reflects the pattern of the projected net cash inflows to the Company that are expected to occur, or when such pattern does not exist, using the straight-line basis over their respected estimated useful lives. The Company reviews the recoverability of its finite-lived intangible assets for recoverability whenever events or circumstances indicate that the carrying amount of an asset may not be recoverable.
The Company has determined that there was an impairment of intangible assets during the fourth quarter of 2010 and 2009. The results of this assessment are more fully described in Note 6 - “Goodwill and Intangible Assets”.
Stock-Based Compensation
The Company records stock based compensation in accordance with ASC 718, formerly Financial Accounting Standard Board Statement of Financial Accounting Standards No. 123 (revised 2004). In estimating the grant date fair value of stock option awards and performance based restricted stock, we use the Black Scholes option pricing model where appropriate. The key assumptions for this model to derive fair value include expected term, rate of risk free returns and volatility. Information about our specific award plans can be found in Note 12.
Revenue Recognition
In accordance with ASC 605 and SEC Staff Accounting Bulletin 104, the Company monetizes a portion of its user activities through subscription based sources by providing on-going monthly access to and usage of premium products and services. In general, customers are billed at standard rates, during the month, and revenues are recognized upon receipt of information confirming an arrangement in that same month. The Company estimates a provision for refunds, and credits which is recorded as a reduction to revenues. In determining the estimate for refunds and credits, the Company relies upon historical data, contract information and other factors. The estimated provision for refunds can vary from actual results.
The Company effectuates its subscription service revenues through a carrier or distributors who are paid a transaction fee for their services. In accordance with ASC subtopic 605-45 “Principal Agent Considerations”, the Company recognizes as revenues the net amount received from the carrier or distributor, net of their fee.
The Company monetizes a portion of its user activities through transactional based services generated primarily from (a) fees earned, primarily on a cost per click (“CPC”) basis, from search syndication services; (b) fees earned for the Company's search engine marketing ("SEM") services; and (c) other fees for marketing services including data and list management services, which can be either periodic or transactional. Fee revenue is recognized in the period that the Company's advertiser customer generates a sale or other agreed-upon action on the Company's affiliate marketing networks or as a result of the Company's SEM services, provided that no significant Company obligations remain, collection of the resulting receivable is reasonably assured, and the fees are fixed or determinable. All transactional services revenues are recognized on a gross basis in accordance with the provisions of ASC Subtopic 605-45, due to the fact that the Company is the primary obligor, and bears all credit risk to its customer, and publisher expenses that are directly related to a revenue-generating event are recorded as a component of 3rd party Media Cost.
Accumulated Other Comprehensive Loss
Comprehensive loss consists of two components, net loss and other comprehensive income (loss). Other comprehensive income (loss) refers to revenue, expenses, gains and losses that under generally accepted accounting principles in the United States, or GAAP, are recorded as an element of shareholders’ equity but are excluded from net income (loss). The Company’s other comprehensive loss consists of foreign currency translation adjustments from our subsidiary that does not use US dollars as their functional currency.
Income Taxes
The Company uses the asset and liability method of financial accounting and reporting for income taxes required by ASC 740, formerly Statement of Financial Accounting Standards No. 109 (“SFAS 109”), “Accounting for Income Taxes”. Under ASC 740, deferred income taxes reflect the tax impact of temporary differences between the amount of assets and liabilities recognized for financial reporting purposes and the amounts recognized for tax purposes.
We maintain valuation allowances where it is more likely than not that all or a portion of a deferred tax asset will not be realized.
Under ASC 740-10-25, the Company classifies interest expense and penalties related to unrecognized tax benefits as income tax expense. ASC 740 clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements in accordance with ASC 740 and prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. The evaluation of a tax position in accordance with this Interpretation is a two-step process. The first step is recognition, in which the enterprise determines whether it is more likely than not that a tax position will be sustained upon examination, including resolution of any related appeals or litigation processes, based on the technical merits of the position. The second step is measurement. A tax position that meets the more-likely-than-not recognition threshold is measured to determine the largest amount of benefit that is more likely than not to be sustained.
The Company and its subsidiaries file income tax returns in the U.S and Canada. The Company is subject to federal, states and Canadian examinations. The statute of limitations for 2007, 2008 and 2009 in all jurisdictions (except California which includes 2006 through 2009) remain open and income tax returns filed for such periods are subject to potential examination by tax authorities.
Fair Value Measurements
We apply the fair value measurement guidance of ASC 820 for our financial assets and liabilities that are required to be measured at fair value and for our nonfinancial assets and liabilities that are not required to be measured at fair value on a recurring basis, including goodwill and intangible assets. The measurement of fair value requires the use of techniques based on observable and unobservable inputs. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect our market assumptions. The inputs create the following fair value hierarchy:
• Level 1 - Quoted prices for identical assets or liabilities in active markets.
• Level 2 - Quoted prices for similar assets or liabilities in active markets; quoted prices for identical or similar assets or liabilities in markets that are not active; and model-derived valuations where inputs are observable or where significant value drivers are observable.
• Level 3- Assets or liabilities where inputs are unobservable to third parties.
When available, we use quoted market prices for the same or similar instruments to determine the fair value of our assets and liabilities and classify such items in Level 1 or Level 2. In some cases, and where observable inputs are not available, we use unobservable inputs to measure fair value and classify such items in Level 3.
Reclassification
Certain amounts reported in prior years have been reclassified to conform to the current year presentation.
NOTE 3 - Going Concern and Liquidity Considerations
The Company’s consolidated financial statements are prepared using accounting principles generally accepted in the United States applicable to a going concern, which contemplates the realization of assets and liquidation of liabilities in the normal course of business. The accompanying historical consolidated financial statements do not include any adjustments that might be necessary if the Company is unable to continue as a going concern.
The assessment of the Company’s ability to continue as a going concern was made by management considering, among other factors: (i) the Company’s current levels of expenditures, including subscriber acquisition costs, operating expense, including product development, and overhead, (ii) the Company’s ongoing working capital needs, (iii) the uncertainty concerning the outcome of any financing, (iv) the Company’s fiscal year net loss of $19.7 million and $29.5 million for the years ending December 31, 2010 and 2009, respectively, (v) the Company’s use of $11.2 million and $3.0 million of cash used in operating activities for the years ending December 31, 2010 and 2009, respectively, (vi) the outstanding balance of cash and cash equivalents of $6.3 million as of December 31, 2010, and (vii) the Company’s budgets and financial projections of future operations, including the likelihood of achieving operating profitability without the need for additional financing.
For periods subsequent to December 31, 2010, the Company expects to incur losses if it continues to incur expenditures to develop the Kazaa service, acquire subscribers for the Kazaa digital music service, and is not able to reduce other operating expenses and overhead sufficiently to a level in line with its level of revenues. If the Company is unable to increase revenues sufficiently or decrease its expenditures to a sustainable level, its financial position, results of operations, cash flows and liquidity will continue to be materially adversely affected. These conditions raise substantial doubt about the Company’s ability to continue as a going concern.
Based on current financial projections, management believes the continuation of the Company as a going concern is primarily dependent on its ability to, among other factors: (i) consummate a suitable financing, or obtain financing from the sale of its assets or lines of business , (ii) scale our Kazaa subscriber base to a level where the monthly revenue generated from the Company’s subscriber base exceeds subscriber acquisition costs, net of expenses required to operate Kazaa, (iii) continue to generate revenue from the Company’s legacy subscription products without billing or service disruption, (iv) eliminate or reduce operating and overhead expenditures to a level more in line with the Company’s revenue (v) improve utilization of the Kazaa digital music service and improve LTVs of subscribers to that service, (vi) acquire profitable subscribers to the Kazaa digital music service at cost effective rates, (vii) grow the Company’s search marketing agency revenue base through the addition of new customers or expansion of business with existing customers and, (viii) expand margins in the Company’s search marketing agency and on its affiliate platform.
While the Company addresses these operating matters, it must continue to meet expected near-term obligations, including normal course operating cash requirements and costs associated with developing and operating the Kazaa digital music service, as well as funding overhead and the working capital needs of the Company’s other businesses. If the Company is not able to obtain sufficient funds through a financing, or if the Company experiences adverse outcomes with respect to its operational forecasts, the Company’s financial position, results of operations, cash flows and liquidity will continue to be materially adversely affected.
In the near term, the Company is focused on: (i) raising debt or equity capital to fund the Company’s immediate cash needs and to finance its longer term growth to further develop the Kazaa business and grow its subscriber base, and (ii) pursuing various means to minimize operating costs and increase cash, including the potential sale of assets. The Company cannot provide assurance that it will be able to realize the cost reductions in the Company’s operations, or that it can obtain additional cash through asset sales or the issuance of equity or raising debt. If the Company is unsuccessful in its efforts it will be required to further reduce the Company’s operations, including further reductions of its employee base, or the Company may be required to cease certain or all of its operations in order to offset the lack of available funding.
NOTE 4- Kazaa
Kazaa is a subscription-based digital music service that gives users unlimited access to hundreds of thousands of CD-quality tracks. For a monthly fee users can download unlimited music files and play those files on up to three separate computers and download unlimited ringtones to a mobile phone. Unlike other music services that charge each time a song is downloaded, Kazaa allows users to listen to and explore as much music as they want for one monthly fee, without having to pay for every track or album. Consumers are billed for this service on a monthly recurring basis through a credit card, landline, or mobile device. Royalties are paid to the rights’ holders for licenses to the music utilized by this digital service. Atrinsic and Brilliant Digital Entertainment, Inc. (“Brilliant Digital”) jointly offer the Kazaa digital music service pursuant to a Marketing Services Agreement and a Master Services Agreement between the two companies, each entered into effective as of July 1, 2009.
Under the Marketing Services Agreement, Atrinsic is responsible for marketing, promotional, and advertising services in respect of the Kazaa business. Pursuant to the Master Services Agreement, Atrinsic provides services related to the operation of the Kazaa business, including billing and collection services and the operation of the Kazaa online storefront. Brilliant Digital is obligated to provide certain other services with respect to the Kazaa business, including licensing the intellectual property underlying the Kazaa business to Atrinsic, obtaining all licenses to the content offered as part of the Kazaa business and delivering that content to subscribers. As part of the agreements, Atrinsic is required to make advance payments and expenditures in respect of certain expenses incurred in order to operate the Kazaa business. These advances and expenditures are recoverable on a dollar for dollar basis against revenues generated by the business. Since inception on July 1, 2009, and through December 31, 2010, the Company has contributed $11.8 million net of revenue and recouped funds in order to support the development of the Kazaa brand.
Also in accordance with the original Marketing Service Agreement and Master Service Agreement, Atrinsic and Brilliant Digital were to share equally in the “Net Profit” generated by the Kazaa music subscription service after all of the Company’s costs and expenses have been recouped. For the year ended December 31, 2010, the Company has presented in its statement of operations, Kazaa revenue of $10.7 million (recorded as part of subscription revenue) and expenses incurred for the Kazaa music service of $18.7 million, offset by $0.4 million of reimbursements from Brilliant Digital. For the year ended December 31, 2009, the Company has presented in its statement of operations, Kazaa revenue of $2.7 million and expenses incurred for the Kazaa music service of $4.9 million, offset by $2.1 million of reimbursements from Brilliant Digital.
On October 13, 2010, Atrinsic entered into amendments to its existing Marketing Services Agreement and Master Services Agreement with Brilliant Digital and entered into an agreement with Brilliant Digital to acquire all of the assets of Brilliant Digital that relate to its Kazaa subscription based music service business.
Among other things, the amendments extend the term of each of the Marketing Services Agreement and Master Services Agreement from three years to thirty years, provide Atrinsic with an exclusive license to the Kazaa trademark in connection with Atrinsic’s services under the agreements, and modify the Kazaa digital music service profit share payable to Atrinsic under the agreements from 50% to 80%. In addition, the amendments remove Brilliant Digital’s obligation to repay up to $2.5 million of advances and expenditures which are not otherwise recovered from Kazaa generated revenues and remove the $5.0 million cap on expenditures that Atrinsic was required to advance in relation to the operation of the Kazaa business. As consideration for entering into the amendments, Atrinsic issued 1,040,358 shares of its common stock to Brilliant Digital on October 13, 2010. The issuance of these shares resulted in the Company recording an intangible asset of $1.4 million which is being amortized over 10 years.
The amendments to the Marketing Services Agreement and Master Services Agreement are part of a broader transaction between Atrinsic and Brilliant Digital pursuant to which Atrinsic will acquire all of the assets of Brilliant Digital that relate to its Kazaa digital music service business in accordance with the terms of an asset purchase agreement entered into between the parties. The purchase price for the acquired assets includes the issuance by Atrinsic of an additional 1,781,416 shares of its common stock at the closing of the transactions contemplated by the asset purchase agreement as well as the assumption of certain liabilities related to the Kazaa business. The closing of the transactions contemplated by the asset purchase agreement will occur when all of the assets associated with the Kazaa business, including the Kazaa trademark and associated intellectual property, as well as Brilliant Digital’s content management, delivery and customer service platforms, and licenses with third parties, have been transferred to Atrinsic. The closing of the transactions contemplated by the asset purchase agreement is subject to approval by the stockholders of Atrinsic and Brilliant Digital, receipt of all necessary third party consents as well as other customary closing conditions. At the closing of the transactions contemplated by the asset purchase agreement, Atrinsic has agreed to appoint two individuals to be selected by Brilliant Digital to serve on Atrinsic’s Board of Directors. In addition, at the closing, each of the Marketing Services Agreement and Master Services Agreement will terminate.
NOTE 5 - Property and Equipment
Property and equipment consists of the following:
Depreciation expense for the years ended December 31, 2010 and 2009 totaled $1.0 million and $0.8 million respectively and is recorded on a straight line basis. Included in 2010 depreciation expense was accelerated depreciation charges related to a write-off of $0.4 million in property, plant and equipment related to the decision to shut down the Canada facility.
NOTE 6- Goodwill and Intangible Assets
Impairment of Long-Lived Assets
ASC 360 requires that an entity test for the recoverability of long-lived assets if events or changes in circumstances indicate that the carrying value may not be recoverable. As a result of significant adverse changes in the business climate, the Company concluded that triggering events had occurred and the Company tested long-lived assets for impairment as of December 31, 2010 and 2009, and concluded that the carrying value of certain amortizable intangibles may not be recoverable.
The Company assessed the recoverability of the long-lived asset groups classified as held and used by comparing their undiscounted future cash flows to their individual carrying value. The future undiscounted cash flows associated with certain acquired amortizable intangible assets were determined to be less than the carrying value of such assets.
The Company then determined the fair value of such amortizable intangible assets and recognized an impairment charge of $3.4 million and $2.2 million for the years ended December 31, 2010 and 2009, respectively.
Impairment of Indefinite Lived Intangibles and Goodwill
As part of our annual impairment analysis, it was determined that the carrying amount of certain of the Company’s indefinite lived intangible assets were impaired and a loss of $1.5 million and $2.0 million was recognized for the years ended December 31, 2010 and 2009, respectively. The Company evaluated the remaining useful life of each of its indefinite lived intangible assets to determine whether events and circumstances continue to support an indefinite useful life and determined one of its indefinite lived tradenames to have a useful life of 5 years as of December 31, 2010. This intangible asset will be amortized prospectively over its estimated remaining useful life of 5 years and accounted for in the same manner as other intangible assets that are subject to amortization. This intangible asset was tested for impairment as a long-lived asset as of December 31, 2010.
In connection with its annual goodwill impairment testing for the year ended December 31, 2009, the Company determined there was an impairment of the carrying value of goodwill and recorded a non-cash goodwill impairment charge of $13.1 million. The goodwill impairment is primarily due to reduced market capitalization and valuation multiples which was reflected in our stock price at that time.
The impairment charge reflects the amount by which the carrying amount of goodwill exceeded the residual value remaining after ascribing fair values to the Company’s tangible and intangible assets. In performing the related valuation analysis the company used various valuation methodologies including probability weighted discounted cash flows, comparable transaction analysis, market capitalization and comparable company multiple comparison to determine whether goodwill was impaired.
The implied fair value of goodwill is determined in the same manner as the amount of goodwill recognized in a business combination. As a result, the Company allocated the fair value of the single reporting unit to all of the assets and liabilities of the Company as if the reporting unit had been acquired in the business combination and fair value of the reporting unit was the price paid to acquire the reporting unit. The excess of the fair value of the reporting unit over the amounts assigned to its assets and liabilities is the implied fair value of the goodwill.
The changes in carrying amount of goodwill for the year ended December 31, 2009 is as follows:
During the first quarter of 2009, the Company revised its estimate of the fair market value of certain pre-acquisition contingencies and other merger related liabilities for its acquisitions of Traffix, Inc., and Ringtone.com. This resulted in an increase of the Company’s liabilities by approximately $906,000. In the second quarter of 2009 the Company increased its liabilities by a further $115,000 in relation to its acquisition of Ringtone.com. In the third quarter of 2009, as a result of the purchase of the assets of ShopIt.com, the Company recorded $1.1 million of goodwill and $1.8 million of identifiable intangible assets.
The carrying amount and accumulated amortization of intangible assets as of December 31, 2010 and 2009, respectively, are as follows:
Amortization expense for the year ended December 31, 2010 and 2009 was $0.7 million and $2.9 million respectively. Expected annual amortization expense related to amortizable intangibles for fiscal year 2011, 2012, 2013, 2014, 2015 and thereafter are $0.4 million, $0.3 million, $0.3 million, $0.3 million, $0.3 million and $0.7 million, respectively.
NOTE 7 - Fair Value Measurement
The carrying amounts of cash equivalents, accounts receivable, accounts payable and accrued expenses are believed to approximate fair value due to the short-term maturity of these financial instruments. The following tables present certain information for our assets and liabilities that are measured at fair value on a recurring basis at December 31, 2009 (Atrinsic holds no assets that are required to be measured at fair value at December 31, 2010):
At December 31, 2009, put option liabilities on our common stock issued in connection with the ShopIt acquisition are included in other current liabilities in our consolidated balance sheet.
In connection with the ShopIt acquisition, the company issued put options to debt holders. These options had certain exercise requirements and the Company received notices to exercise an aggregate of 48,120 shares underlying options with a strike price of $8.00. The Company has negotiated with the holders of the put options to cancel the put options and in exchange, the Company is to pay the put option holders cash, over a six- to nine-month period. As of December 31, 2010 the Company had a payable of approximately $0.2 million relating to these agreements recorded in accounts payable on the Company’s consolidated balance sheet.
We also measure goodwill and intangible assets on a non-recurring basis, which is summarized as follows (in thousands):
Goodwill, with a carrying amount of $13.1 million was written down to its fair value of $0.0 million in 2009, resulting in an impairment charge of $13.1 million, which was included in earnings for the period.
In 2010, intangible assets with a carrying amount of $7.9 million were written down to their fair value of $3.0 million, resulting in an impairment charge of $4.9 million. In 2009, intangible assets, with a carrying amount of $11.4 million were written down to their fair value of $7.3 million, resulting in an impairment charge of $4.1 million. Impairment charges are included in statement of operations for the periods then ended.
NOTE 8 - Concentration of Business and Credit Risk
Financial instruments which potentially subject the Company to credit risk consist primarily of cash and cash equivalents and accounts receivable.
Atrinsic is currently utilizing several billing aggregators in order to provide content and billings to the end user. These billing aggregators act as a billing interface between Atrinsic and the mobile phone carriers that ultimately bill Atrinsic’s end user subscribers. These billing aggregators have not had long operating histories in the U.S. or operations with traditional business models. These companies face a greater business risk in the marketplace, due to a constant evolving business environment that stems from the infancy of the U.S. mobile content industry. In addition, the Company also has customers other than aggregators that represent significant amounts of revenues and accounts receivable.
The table below represents the company’s concentration of business and credit risk by customers and aggregators.
NOTE 9 - Stockholders' Equity
On December 2, 2010, the Company effected a 1-for-4 reverse stock split which reduced the number of shares of the Company’s common stock outstanding from approximately 20,915,881 to 5,228,970. The Company amended its articles of incorporation to reflect the reverse split, but maintained its authorized shares at 100,000,000 with a par value of $0.01.
On October 13, 2010, the Company issued 1,040,358 shares (on a post reverse stock split basis) to Brilliant Digital Entertainment, Inc. as consideration for entering into amendments of existing marketing and service agreements related to the Kazaa subscription-based digital music service.
In April, 2008, the Company’s Board of Directors authorized a stock repurchase program allowing it to purchase up to $10 million of its outstanding shares of common stock through May 31, 2009, depending on market conditions, share prices, and other factors. Repurchases could take place in the open market or in privately negotiated transactions and could be made under a Rule 10b5-1 plan.
The Company repurchased 208,098 of its common stock at an average price of $4.52 during the year ended December 31, 2009. Total cash consideration for the repurchased stock was $0.9 million which is presented as common stock, held in treasury in the accompanying Consolidated Balance Sheet. The share repurchase program expired in May 2009.
NOTE 10 - Provision (Benefit) for Income Taxes
The provision (benefit) for income taxes consists of the following components for the periods ended as follows:
Deferred tax assets and liabilities reflect the effect of tax losses, credits, and the future tax effect of temporary differences between consolidated financial statement carrying amounts of existing assets and liabilities and their respective tax bases and are measured using enacted tax rates that apply to either future taxable income or deductible amounts in the years in which those temporary differences are expected to be recovered or settled.
The income tax effects of significant items comprising the Company's deferred income tax assets and liabilities are as follows:
Under the provisions of Financial Accounting for Income Taxes, ASC 740, formerly Statement of Financial Accounting Standards 109 (“SFAS 109”), “Accounting for Income Taxes”, management is required to evaluate whether a valuation allowance should be established against its deferred tax assets based on the consideration of all available evidence using a "more likely than not" standard. Realization of deferred tax assets is dependent upon taxable income in prior carryback years, estimates of future taxable income, tax planning strategies, and reversals of existing taxable temporary differences. Based on negative evidence such as cumulative losses in recent years and losses expected in future years, management concluded that a full valuation allowance of $19.3 million and $11.1 million should be recorded as of December 31, 2010 and 2009, respectively. However, the Company recorded a deferred tax liability relating to intangibles which are not expected to reverse in the future and therefore cannot be offset against deferred tax assets.
As of December 31, 2010 the Company had $21.8 million of federal net operating loss carryforwards, $30.7 million of New York state loss carryforwards, $0.2 million of California state loss carryforwards and $0.8 million in foreign tax credits. The federal net operating loss will expire by 2029 and 2030, California by 2031 and New York by 2029 and 2030 if not utilized by then. The foreign tax credit will expire from 2015 to 2018.
The Company has $0.4 million and $4.4 million recorded as an income tax receivable on its consolidated balance sheet as of December 31, 2010 and 2009, respectively. In November 2009 Congress passed the Worker Homeownership & Business Assistance Act of 2009 which allows businesses to carryback operating losses for up to 5 years. As a result of this Act the Company carried back some of its 2009 taxable loss, resulting in a refund of $2.7 million, which was received in 2010. The Company is subject to audit as a result of this refund. The $0.4 million is the net receivable for a tax loss carryback and other state and foreign taxes.
The total income tax provision (benefit) relating to continuing operations differed from income taxes at the statutory federal income tax rates of 35% for 2010 and 2009, respectively, as a result of the following items:
Uncertain Tax Positions
The Company recognizes interest and penalties related to uncertain tax positions as income tax expense.
The Company or its subsidiaries filed income tax returns in U.S. and Canada. In the normal course of business the Company’s open tax years of 2007 and forward are subject to examinations by the taxing authorities (except California is open for 2006 and forward). If any issues addressed in the Company’s tax audits are resolved in a manner not consistent with management’s expectations, the Company could be required to adjust its provision for income taxes. Although the timing or the resolution and/or closure of the audits is highly uncertain and may change within the next twelve months, the changes are not anticipated to be significant.
A year-over-year reconciliation of our liability for uncertain tax positions is as follows:
NOTE 11- Earnings (Loss) Per Share
Basic earnings per share (“EPS”) is computed by dividing reported earnings by the weighted average number of shares of common stock outstanding for the period. Diluted EPS includes the effect, if any, of the potential issuance of additional shares of common stock as a result of the exercise or conversion of dilutive securities, using the treasury stock method. Potential dilutive securities for the Company include outstanding stock options and warrants.
The computational components of basic and diluted earnings per share are as follows:
Common stock underlying outstanding options and convertible securities were not included in the computation of diluted earnings per share for the years ended December 31, 2010 and 2009, because their inclusion would be anti dilutive when applied to the Company’s net loss per share.
Financial instruments, which may be exchanged for common stock are excluded in periods in which they are antidilutive. The following shares were excluded from the calculation of diluted earnings per share:
Anti Dilutive EPS Disclosure
The per share exercise prices of the options excluded were $1.92 - $56.00 at December 31, 2010 and 2009. The per share exercise prices of the warrants excluded were $13.76 - $22.00 at December 31, 2010 and 2009.
See note 12 for further information about the options and warrants.
NOTE 12- Stock Based Compensation
2005 Plan
In 2005, New Motion Mobile, Inc., the Company’s wholly-owned subsidiary, established its 2005 Stock Incentive Plan, (the “2005 Plan”), for eligible employees and other directors and consultants. Under the 2005 Plan, officers, employees and non-employees may be granted options to purchase common stock at no less than 100% of the market price at the date the option is granted. In February 2007, the Company completed an exchange transaction (“the Exchange”) pursuant to which New Motion Mobile became Atrinsic’s wholly-owned subsidiary. In connection with the Exchange, the options granted under the 2005 Plan by New Motion Mobile were assumed by Atrinsic and, at the time of the Exchange, Atrinsic’s board of directors adopted a resolution not to grant any further equity awards under the 2005 Plan.
2007 Plan
On February 16, 2007, Atrinsic’s board of directors approved the 2007 Stock Incentive Plan (the “2007 Plan”) which made available for grant up to 350,000 shares of common stock. On March 15, 2007, Atrinsic received, by written consent of holders of a majority of all classes of its common and preferred stock and the consent of the holders of a majority of Atrinsic’s common stock and preferred stock voting together and as a single class, approval of the 2007 Plan. Under the 2007 Plan, officers, employees and non-employees may be granted options to purchase Atrinsic’s common stock at no less than 100% of the market price at the date the option is granted.
2009 Plan
On June 25, 2009, the Company adopted the Atrinsic, Inc. 2009 Stock Incentive Plan. Under the plan, the Company is authorized to grant equity-based awards in the form of stock options, restricted common stock, restricted stock units, stock appreciation rights, and other stock based awards to employees (including executive officers), directors and consultants of the Company and its subsidiaries. The maximum number of shares available for grant under the plan is 687,500 shares of common stock. The number of shares available for award under the plan is subject to adjustment for certain corporate changes and based on the types of awards provided, all in accordance with the provisions of the plan.
Option Valuation
To value awards granted, the Company uses the Black-Scholes option pricing model. The Company determines the assumptions in this pricing model at the grant date. For options granted or modified after January 1, 2006, since Atrinsic is minimally traded, the Company bases expected volatility on the historical volatility of a peer group of publicly traded entities. Atrinsic has limited history with its stock option grants, during which time there has been limited stock option exercise and forfeiture activity on which to base expected maturity. Management estimates that on average, options will be outstanding for approximately 5 to 6 years. Atrinsic bases the risk-free rate for the expected term of the option on the U.S. Treasury Constant Maturity rate as of the grant date. There were no options granted in 2009.
The fair value of each option award during the year ended December 31, 2010 was estimated on the date of grant using a Black-Scholes valuation model that used the assumptions noted in the following table:
Stock Options
Stock option activity under the 2005, 2007 and 2009 Plans was as follows:
Grants Outside of Plans
In 2008, the Company issued options to purchase 125,000 shares of the Company’s common stock to executives of the Company. These options were issued outside of the Plan due to a limitation in the number of shares available under the Plan. As a result of the adoption of the Company’s one-time option exchange program on June 25, 2009, these shares were cancelled. The remaining options to purchase 90,796 shares of common stock are exercisable until October 5, 2010 as per the Company’s Separation and Mutual Release Agreement with Burton Katz. As of October 5, 2010, these options were forfeited.
Awards granted outside the Plan are valued in the same manner as options granted under the Plan, including the methods of deciding upon the assumptions used in the Black-Scholes valuation. The fair value of the option award outside the Plan was estimated on the date of grant using a Black Scholes valuation model that used the assumptions noted in the following table:
Stock option activity outside the Plan was as follows:
Summary Option Information
The following table summarizes information concerning currently outstanding and exercisable stock options as of December 31, 2010:
Restricted Stock
The following table summarizes restricted stock activity for the years ended December 31, 2010 and 2009.
Restricted Stock Units
In 2009, the Company adopted the Atrinsic, Inc. 2009 Stock Incentive Plan. Under this plan, 187,500 restricted stock units were granted to certain executives of the Company. With the resignation of Burton Katz, the Chief Executive Officer, and Andrew Zaref, the Chief Financial Officer, 118,750 of these restricted stock units were cancelled. The following table summarizes the activity for 2010 and 2009.
At December 31, 2010, there was $0.7 million of total unrecognized compensation cost related to unvested stock options, restricted stock, and restricted stock units of the 2005, 2007, and 2009 Plan. That cost is expected to be recognized over a weighted average period of one year.
Total non-cash equity based compensation expense included in the consolidated Statement of Operations for the years ended December 31, 2010 and 2009 was $1.1 million and $0.9 million, respectively, as follows:
For the year ended December 31, 2010 and 2009 compensation expense relating to options was recorded net of a forfeiture rate of approximately 33% and 51% respectively. No stock-based compensation costs were capitalized as part of the cost of an asset for any of the periods presented. Additionally the tax benefit from the tax deduction related to share-based compensation that is in excess of recognized compensation costs is reported as a financing cash flow rather than an operating cash flow.
Warrants
The Company has not had any warrant activity since 2008. The following table summarizes information concerning currently outstanding and exercisable common stock warrants as of December 31, 2010 adjusted for the Company’s 1 for 4 reverse stock split in December 2010:
NOTE 13 - Commitments and Contingencies
On March 10, 2010, Atrinsic received final approval of its settlement of the Class Action in the case known as Allen v. Atrinsic, Inc. f/k/a New Motion, Inc., formerly pending in Los Angeles County Superior Court. This national settlement covers all of the Company’s mobile products, web sites and advertising practices through the date the Final Judgment was entered. All costs of the settlement and defense were accrued for in 2008; therefore this settlement did not impact the Company’s results of operations in 2009 or 2010. In addition to administrative costs and refunds, during the second quarter of 2010 the Company paid the $1.0 million settlement for the Class Action.
Because the terms of the settlement applied nationally, all other consumer class action cases pending against the Company were dismissed without payment of any monies.
On November 1, 2010, the Company received notice of final award from an arbitration panel relating to a Statement of Claim in an arbitration action against a past aggregator for amounts the Company believes were outstanding under a past aggregation agreement, plus fees and other costs. As a result of this award, the Company recorded a gain on legal settlement which is included in the $1.7 million in other income in the Statement of Operations of approximately $1.1 million in the third and fourth quarters of 2010. The terms of the award are confidential.
In November, 2009, the Company reached a settlement regarding a suit it had filed earlier that year against Mobile Messenger Americas, Inc. and Mobile Messenger Americas Pty, Ltd. (collectively Mobile Messenger) to recover monies owed to the Company in connection with transaction activity incurred in the ordinary and normal course of business. The complaint also sought declaratory relief concerning demands made by Mobile Messenger for indemnification for amounts paid by Mobile Messenger in late 2008 in settlement of a class action lawsuit in Florida, Grey v. Mobile Messenger, et al. (the “Florida Class Action”). Mobile Messenger brought upon the Company a cross complaint, seeking injunctive relief, indemnification for the settlement of the Florida Class Action and other matters. The terms of the settlement are confidential, but in general resulted in a complete dismissal of the entire action, including the cross-complaint, with prejudice. Pursuant to the settlement agreement, independent auditors conducted an accounting of payments made to the Company by Mobile Messenger. In August, 2010, the independent auditors issued their report detailing their findings which Mobile Messenger disputed, and as dictated by the terms of the settlement agreement, the parties have engaged in arbitration. We expect this matter to be finalized in the second quarter of 2011. Any payments arising out of the settlement are not expected to have a material impact on the Company’s financial condition or results from operations, beyond what it has already expensed and accrued for in 2009.
In the ordinary course of business, the Company is involved in various disputes, which are routine and incidental to the business and the industry in which it operates. The results of such disputes are not expected to have a significant adverse effect on the Company’s financial position or results of operations. Of the approximately $5.2 million in total accrued expenses as of December 31, 2010, $0.3 million is associated with the legal contingencies disclosed above.
Lease and Employment Commitments
The following table shows the Company’s future commitments for future minimum lease payments required under operating leases for office space and equipment that have remaining non-cancellable lease terms in excess of one year and future commitments under employment agreements, as of December 31, 2010:
Subsequent to December 31, 2010, the Company entered into a surrender of lease agreement with its landlord for the former Traffix office located in Pearl River, New York. In consideration for the lease termination, the Company agreed to pay the landlord a cancellation fee of $0.2 million in the form of a note payable. The termination of this resulted in a reduction of 2011 operating lease payments of $0.3 million. The table above does not reflect any obligation relating to this lease.
Rent expense for all operating leases in 2010 and 2009 was $0.9 million and $1.3 million, respectively.
NOTE 14 - Employee Benefit Plan
The Company’s employee benefit plan covers all eligible employees and includes a savings plan under Section 401(k) of the Internal Revenue Code. The savings plan allows participants to make pretax contributions up to 90% of their earnings, with the Company contributing an additional 35% of up to six percent of an employee’s compensation. During the years ended December 31, 2010 and 2009, the Company contributed approximately $70,000 and $78,000 to the plan.
NOTE 15 - Geographic Data
Geographic information about the Company’s long-lived assets is presented below. Revenues were exclusively generated in the United States.
NOTE 16 - Recent Accounting Pronouncements
Adopted in 2010
In September 2009, the FASB issued SFAS No. 167, “Amendments to FASB Interpretation No. 46(R)” (“SFAS No. 167”) which has been superseded by the FASB Codification and included in ASC 810 to require an enterprise to perform an analysis to determine whether the enterprise’s variable interest or interests give it a controlling financial interest in a variable interest entity. This analysis identifies the primary beneficiary of a variable interest entity as one with the power to direct the activities of a variable interest entity that most significantly impact the entity’s economic performance and the obligation to absorb losses of the entity that could potentially be significant to the variable interest. These revisions to ASC 810 are effective as of January 1, 2010 and the adoption of these revisions to ASC 810 had no impact on our results of operations or financial position.
Not Yet Adopted
In October 2009, FASB approved for issuance Emerging Issues Task Force (EITF) issue 08-01, Revenue Arrangements with Multiple Deliverables which has been superseded by the FASB codification and included in ASC 605-25. This statement provides principles for allocation of consideration among its multiple-elements, allowing more flexibility in identifying and accounting for separate deliverables under an arrangement. The EITF introduces an estimated selling price method for valuing the elements of a bundled arrangement if vendor-specific objective evidence or third-party evidence of selling price is not available, and significantly expands related disclosure requirements. This standard is effective on a prospective basis for revenue arrangements entered into or materially modified in fiscal years beginning on or after September 15, 2010. Alternatively, adoption may be on a retrospective basis, and early application is permitted. The Company does not expect the impact of adopting this pronouncement to be material.
In December 2010, the FASB issued ASU 2010-28, Intangibles - Goodwill and Other (Topic 350): When to Perform Step 2 of the Goodwill Impairment Test for Reporting Units with Zero or Negative Carrying Amounts (“ASU 2010-28”). Upon adoption of ASU 2010-28, an entity with reporting units that have carrying amounts that are zero or negative is required to assess the likelihood of the reporting units’ goodwill impairment. ASU 2010-28 is effective January 1, 2011 and we do not believe that the adoption of ASU 2010-28 will have a significant impact on our results of operations or financial position.
NOTE 17 - Subsequent Events
We have evaluated events subsequent to the balance sheet date for the year ended December 31, 2010 and there has not been any material events that have occurred that would require adjustments to or disclosure in our consolidated financial statements.
NOTE 18 - Valuation and Qualifying Accounts
The following table provides information regarding the Company’s allowance for doubtful accounts and deferred tax valuation allowance.
In 2010, the Company settled lawsuits with some of its customers leading to settlements of $1.9 million for Motricity and $0.2 million for Mobile Messenger (see note 13). The company also assigned $0.8 million of its receivable for 1-800 Mattress to a third party.
Supplemental Financial Information (Unaudited)
The following table presents unaudited quarterly results of operations for 2010 and 2009. These quarterly results reflect all normal recurring adjustments that are, in the opinion of management, necessary for a fair presentation of the results.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURES.
None
ITEM 9A
ITEM 9A CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
Members of the our management, including our Executive Vice President, Raymond Musci, and Chief Financial Officer, Thomas Plotts, have evaluated the effectiveness of our disclosure controls and procedures, as defined by paragraph (e) of Exchange Act Rules 13a-15 or 15d-15, as of December 31, 2010, the end of the period covered by this report. Based upon that evaluation, Messrs. Musci and Plotts concluded that our disclosure controls and procedures were effective as of December 31, 2010.
Management’s Report on Internal Control over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934, as amended. Our internal control over financial reporting is designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. Our internal control over financial reporting includes those policies and procedures that:
(i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of our assets;
(ii) provide reasonable assurance that transactions are recorded as necessary to permit the preparation of financial statements in accordance with U.S. generally accepted accounting principles, and that our receipts and expenditures are being made only in accordance with authorizations of management and directors; and
(iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition our assets that could have a material effect on our financial statements.
Because of inherent limitations, internal control over financial reporting may not prevent or detect misstatements. In addition, projections of any evaluation of effectiveness to future periods are subject to risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
Our management assessed the effectiveness of our internal control over financial reporting as of December 31, 2010. In making this assessment, we used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control-Integrated Framework. Based on our assessment and those criteria, we have concluded that our internal control over financial reporting was effective as of December 31, 2010.
Changes in Internal Control over Financial Reporting
There were no changes in our internal control over financial reporting or in other factors identified in connection with the evaluation required by paragraph (d) of Exchange Act Rules 13a-15 or 15d-15 that occurred during the fourth quarter ended December 31, 2010 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
ITEM 9B.
ITEM 9B. OTHER INFORMATION
None.
Part III
ITEM 10.
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS, AND CORPORATE GOVERNANCE
The information required by this item will be included in an amendment to this report on form 10-K or a proxy statement which shall be filed with the Securities and Exchange Commission no later than April 30, 2011.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this item will be included in an amendment to this report on form 10-K or a proxy statement which shall be filed with the Securities and Exchange Commission no later than April 30, 2011.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
The information required by this item will be included in an amendment to this report on form 10-K or a proxy statement which shall be filed with the Securities and Exchange Commission no later than April 30, 2011.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE
The information required by this item will be included in an amendment to this report on form 10-K or a proxy statement which shall be filed with the Securities and Exchange Commission no later than April 30, 2011.
ITEM 14.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
The information required by this item will be included in an amendment to this report on form 10-K or a proxy statement which shall be filed with the Securities and Exchange Commission no later than April 30, 2011.
Part IV
ITEM 15.
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES
(a) Documents filed as part of this report
1. Financial Statements.
See Index to Financial Statements in Item 8 of this Annual Report on Form 10-K, which is incorporated herein by reference.
2. Financial Statement Schedules.
All financial statement schedules are omitted because the information is inapplicable or presented in the Notes to Financial Statements.
3. Exhibits. See Item 15(b) below.
(b) Exhibits. We have filed, or incorporated into this Form 10-K by reference, the exhibits listed on the accompanying Index to Exhibits immediately following the signature page of this Form 10-K.
(c) Financial Statement Schedule. See Item 15(a) above.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
Atrinsic, Inc.
/s/ Thomas Plotts
By: Thomas Plotts
Its: Chief Financial Officer
Date: April 7, 2011
POWER OF ATTORNEY
The undersigned directors and officers of Atrinsic, Inc. do hereby constitute and appoint Raymond Musci and Thomas Plotts, and each of them, with full power of substitution and resubstitution, as their true and lawful attorneys and agents, to do any and all acts and things in our name and behalf in our capacities as directors and officers and to execute any and all instruments for us and in our names in the capacities indicated below, which said attorney and agent, may deem necessary or advisable to enable said corporation to comply with the Securities Exchange Act of 1934, as amended and any rules, regulations and requirements of the Securities and Exchange Commission, in connection with this Annual Report on Form 10-K, including specifically but without limitation, power and authority to sign for us or any of us in our names in the capacities indicated below, any and all amendments hereto, and we do hereby ratify and confirm all that said attorneys and agents, or either of them, shall do or cause to be done by virtue hereof.
In accordance with the Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
Name
Title
Date
/s/ Raymond Musci
Executive Vice President & Director
April 7, 2011
Raymond Musci
(Principal Executive Officer)
/s/ Thomas Plotts
Chief Financial Officer
April 7, 2011
Thomas Plotts
(Principal Financial and Accounting
Officer)
/s/ Lawrence Burstein
Director
April 7, 2011
Lawrence Burstein
/s/ Robert S. Ellin
Director
April 7, 2011
Robert S. Ellin
/s/ Mark Dyne
Director
April 7, 2011
Mark Dyne
/s/ Jerome Chazen
Director
April 7, 2011
Jerome Chazen
/s/ Stuart Goldfarb
Director
April 7, 2011
Stuart Goldfarb
S-1
EXHIBIT INDEX
Exhibit
No.
Title
3.1
Restated Certificate of Incorporation. Incorporated by reference to Exhibit 3.1 to the Registrant’s Form 10-SB (File No. 000-51353) filed with the Commission on June 10, 2005.
3.2
Certificate of Amendment to the Restated Certificate of Incorporation, dated October 12, 2004. Incorporated by reference to Exhibit 3.2 to the Registrant’s Form 10-SB (File No. 000-51353) filed with the Commission on June 10, 2005.
3.3
Certificate of Amendment to the Restated Certificate of Incorporation, dated April 8, 2005. Incorporated by reference to Exhibit 3.3 to the Registrant’s Form 10-SB (File No. 000-51353) filed with the Commission on June 10, 2005.
3.4
Certificate of Amendment to the Restated Certificate of Incorporation, dated May 2, 2007. Incorporated by reference to Exhibit 3.1 to the Registrant’s Current Report on Form 8-K (File No. 000-51353) filed with the Commission on May 7, 2007.
3.5
Certificate of Amendment to the Restated Certificate of Incorporation dated June 25, 2009. Incorporated by reference to Exhibit 3(i).1 to the Registrant’s Current Report on Forms 8-K (File No. 000-12555) filed with the Commission on July 1, 2010.
3.6
Certificate of Amendment to the Restated Certificate of Incorporation, dated December 2, 2010.
3.7
Bylaws. Incorporated by reference to Exhibit 3.4 to the Registrant’s Form 10-SB (File No. 000-51353) filed with the Commission on June 10, 2005.
3.8
Form of certificate for shares of common stock of Atrinsic, Inc. Incorporated by reference to Exhibit 99.1 of the Registrant’s Registration Statement of Form SB-2/A (File No. 333-143025) filed with the Commission on July 23, 2007.
4.1
2005 Stock Incentive Plan. Incorporated by reference to the Registrant’s Current Report on Form 8-K (File No. 000-51353) filed with the Commission on February 13, 2007.
4.2
2007 Stock Incentive Plan. Incorporated by reference to Exhibit 4.9 to the Registrant’s Current Report on Form 10-QSB (File No. 000-51353) filed with the Commission on May 15, 2007.
4.3
Form of Stock Option Agreement. Incorporated by reference to Exhibit 4.4 to the Registrant’s Current Report on Form 8-K (File No. 000-51353) filed with the Commission on February 13, 2007.
10.1
Standard Multi-Tenant Office Lease dated July 6, 2005 between Atrinsic, Inc. and Dolphinshire L.P. Incorporated by reference to Exhibit 10.4 to the Registrant’s Current Report on Form 8-K (File No. 000-51353) filed with the Commission on February 13, 2007.
10.2
Messaging Agreement dated November 17, 2003, between Mobliss, Inc. and Cingular Wireless LLC, assigned to Atrinsic, Inc. on January 19, 2007. Incorporated by reference to Exhibit 10.30 to the Registrants Current Report on Form 8-K (File No. 000-51353) filed with the Commission on February 13, 2007.
10.3
SMS Connectivity Agreement dated January 8, 2004, between Mobliss, Inc. and Cingular Wireless LLC, assigned to Atrinsic, Inc. on January 19, 2007. Incorporated by reference to Exhibit 10.31 to the Registrants Current Report on Form 8-K (File No. 000-51353) filed with the Commission on February 13, 2007.
10.4
Lease Agreement dated April 14, 2008, between MED 469 LLC, Rector 469, LLC and TPP 469 LLC and Traffix, Inc. Incorporated by reference to Exhibit 10.20 to the Registrants Annual Report on Form 10-K (File No. 001-12555) filed with the Commission on March 26, 2009.
EX-1
10.5
First Lease Modification Agreement dated as of May 14, 2008 between MED 469 LLC, Rector 469, LLC and TPP 469 LLC and Traffix, Inc. Incorporated by reference to Exhibit 10.21 to the Registrants Annual Report on Form 10-K (File No. 001-12555) filed with the Commission on March 26, 2009.
10.6
Employment Agreement dated as of February 1, 2008, by and between Atrinsic, Inc. and Andrew Stollman. Incorporated by reference to the Registrant’s Current Report on Form 10-Q (File No. 001-12555) filed with the Commission on May 20, 2008. *
10.7
Employment Agreement dated as of February 1, 2008, by and between Atrinsic, Inc. and Burton Katz. Incorporated by reference to the Registrant’s Current Report on Form 10-Q (File No. 001-12555) filed with the Commission on May 20, 2008. *
10.8
Employment Agreement by and between Andrew Zaref and Atrinsic, Inc. dated July 14, 2008. Incorporated by reference to the Registrant’s Current Report on Form 8-K (File No. 001-12555) filed with the Commission on July 17, 2008. *
10.9
Atrinsic, Inc. 2009 Stock Incentive Plan, Incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K (File No. 001-12555) filed with the Commission on July 1, 2009.
10.10
Atrinsic, Inc. 2010 Annual Incentive Compensation Plan. Incoporated by reference to Exhibit 10.2 to the Registrant’s Current Report on Form 8-K (File No. 001-12555) filed with the Commission on July 1, 2009.
10.11
Employment Agreement by and between Jeffery Schwartz and Atrinisc, Inc. dated January 27, 2010. Incorporated by reference to Exhibit 10.20 to the Registrant’s Current Report on Form 10-K (File No. 001-12555) filed with the Commission on March 30, 2010.*
10.12
Employment offer by and between Thomas Plotts and Atrinsic, Inc. dated January 29, 2010. Incorporated by reference to Exhibit 10.21 to the Registrant’s Current Report on Form 10-K (File No. 001-12555) filed with the Commission on March 30, 2010.*
10.13
Separation Agreement and Mutual release by and between Burton Katz and Atrinsic, Inc. dated October 20, 2009. Incorporated by reference to Exhibit 10.22 to the Registrant’s Current Report on Form 10-K (File No. 001-12555) filed with the Commission on March 30, 2010.
10.14
Separation and Release Agreement by and between Andrew Zaref and Atrinsic, Inc. dated December 16, 2009. Incorporated by reference to Exhibit 10.23 to the Registrant’s Current Report on Form 10-K (File No. 001-12555) filed with the Commission on March 30, 2010.
10.15
Master Services Agreement between Atrinsic, Inc. and Brilliant Digital Entertainment, Inc. dated March 26, 2010 but effective as of July 1, 2009. Incorporated by reference to Exhibit 10.3 to the Registrant’s Quarterly Report on Form 10-Q (File No. 001-12555) filed with the Commission on May 11, 2010.
10.16
Employment Agreement dated June 30, 2010 by and between Atrinsic, Inc. and Thomas Plotts. Incorporated by reference to Exhibit 10.1 to the Registrant’s Quarterly Report on Form 10-Q (File No. 001-12555) filed with the Commission on August 16, 2010.
10.17
Asset Purchase Agreement by and between Atrinsic, Inc. and Brilliant Digital Entertainment, Inc. and Altnet, Inc. dated October 13, 2010. Incorporated by reference to Exhibit 10.1 to the Registrant’s Quarterly Report on Form 10-Q (File No. 001-12555) filed with the Commission on November 15, 2010.
EX-2
10.18
Amendment No. 1 to the Marketing Services Agreement entered into and between Atrinsic, Inc. and Brilliant Digital Entertainment, Inc. dated October 13, 2010. Incorporated by Reference to Exhibit 10.2 to the Registrant’s Quarterly Report on Form 10-Q (File No. 001-12555) filed with the Commission on November 15, 2010.
10.19
Amendment No. 1 to the Master Services Agreement entered into and between Atrinsic, Inc. and Brilliant Digital Entertainment, Inc. dated October 13, 2010. Incorporated by Reference to Exhibit 10.3 to the Registrant’s Quarterly Report on Form 10-Q (File No. 001-12555) filed with the Commission on November 15, 2010.
14.1
Code of Ethics. Incorporated by reference to Exhibit 14.1 to the Registrant’s Current Report on Form 8-K (File No. 000-51353) filed with the Commission on August 4, 2007.
21.1
Subsidiaries of the registrant. Incorporated by reference to Exhibit 21.1 of the Registrant’s Annual Report on Form 10-K (File No. 000-12555) filed with the Commission on March 30, 2010.
23.1
Consent of Independent Registered Public Accounting Firm.
24.1
Power of Attorney (included on signature page)
31.1
Certification of Principal Executive Officer pursuant to Securities Exchange Act Rules 13a-14(a) and 15d-14(a) as adopted pursuant to section 302 of the Sarbanes-Oxley Act of 2002.
31.2
Certification of Principal Financial Officer pursuant to Securities Exchange Act Rules 13a-14(a) and 15d-14(a) as adopted pursuant to section 302 of the Sarbanes-Oxley Act of 2002.
32.1
Certification of Principal Executive Officer and Principal Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to section 906 of the Sarbanes-Oxley Act of 2002.
99.1
Asset Purchase Agreement entered into on July 31, 2009 by and among the registrant and ShopIt, Inc., a Delaware corporation. Incorporated by reference to Exhibit 99.1 to the Registrant's Current Report on Form 8-K (File 001-12555) filed with the Commission on August 6, 2009.
* Each a management contract or compensatory plan or arrangement required to be filed as an exhibit to this annual report on Form 10-K.
EX-3