Notes to Consolidated Financial Statements

(Unaudited)

Consorteum Holdings, Inc. (the “Company”), formerly known as Implex Corporation, was incorporated in the State of Nevada on November 7, 2005. On April 9, 2009, Holdings changed its name to Consorteum Holdings, Inc.

In October 2012, we secured a license to market and license the CAPSA technology from Tarsin. The licensing agreement provides the Company with an exclusive right to license the CAPSA software platform in selected geographical markets throughout Canada, and Mexico, along with select customers within the United States and is capable of providing digital media to a wide range of mobile handsets, and provides for the ability to securely transmit financial information to individual handset owners. Tarsin provides us with the proven capabilities in the mobile handset market, which we can use to ensure cross functionality of mobile applications across a wide variety of handsets.  The ability to deliver next generation services to all customers depends on our ability to develop an application that is agnostic to the type of smart phone deployed.  The CAPSA platform was developed with the specific purpose of deploying rich multimedia content across diverse handsets.  We intend to leverage the license agreement with Tarsin in the mobile sports betting and casino gaming vertical to monetize its applications in branded partnership relationships.

In July 2012, we entered into negotiations with Knockout Gaming Limited (“Knockout”), an Isle of Man corporation organized under the laws of the Isle of Man, to resell their online gaming licensed platform, Fireplay. We conducted our due diligence and entered into a licensing and reselling agreement in December 2012. At that time, we paid $30,000 to Knockout as an interim payment against a future equity position in Knockout. Post funding as discussed in Note 9, we intend to negotiate for up to a 10% equity position in Knockout.

Going Concern Assumption

We have secured working capital of approximately $533,000 during the six months ended December 31, 2012. On February 15, 2013, we have raised additional capital totaling net proceeds of approximately $37,000 for pay for services related to our public filings. We require additional equity or debt financing to meet our obligations as they become due. In the event that such financing is not secured, the Company will not be able to satisfy its liabilities.  Furthermore, certain debt is past due and is secured by all assets of the Company.  We are attempting to restructure some of the debt and secure additional financing to satisfy our existing obligations and provide for sufficient working capital to meet the Company’s future obligations but there are no guarantees that we will be able to do so. Our convertible notes of approximately $2.2 million reflected as non-current liabilities will be satisfied through the issuance of common stock, which is in our control and expected to be completed no later than the Company’s quarterly period ended March 31, 2013.

As discussed in Note 9, we entered into a binding term sheet for $30,000,000 in financing which will not begin funding until after April 6, 2013; however, the funding source will use its best efforts to secure a bridge loan of $2,000,000 prior to such date to fund the working capital needs of the Company and its strategic partners .

The accompanying consolidated financial statements do not include any adjustments to reflect the possible future effects on the recoverability and classification of assets or the amounts and classification of liabilities that may result from the inability of the Company to continue as a going concern.

The foregoing unaudited consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information. Accordingly, these consolidated financial statements do not include all of the disclosures required by generally accepted accounting principles in the United States of America for complete financial statements. These unaudited consolidated interim financial statements should be read in conjunction with the consolidated financial statements in our Annual Report on Form 10-K for the year ended June 30, 2012. In the opinion of management, the unaudited interim consolidated financial statements furnished herein include adjustments, all of which are of a normal recurring nature, necessary for a fair statement of the results for all the interim periods presented. Operating results for the three-month period ended December 31, 2012 and for the six months ended December 31, 2012 are not necessarily indicative of the results that may be expected for the year ending June 30, 2013.

The accounting policies of the Company are in accordance with accounting principles generally accepted in the United States of America, and their basis of application is consistent with that of the previous year.

Basis of Presentation

The consolidated financial statements include the accounts of Consorteum Holdings, Inc., Consorteum Inc., and My Golf Rewards Canada, Inc. All significant intercompany balances and transactions are eliminated on consolidation.

Use of estimates 

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting periods. Significant areas requiring the use of estimates relate the valuation of stock-based compensation. These estimates are based on management's best knowledge of current events and actions the Company may undertake in the future. Actual results will ultimately differ from those estimates.

Earnings or loss per share

The Company accounts for earnings or loss per share pursuant to ASC 260, "Earnings per Share," which requires disclosure on the financial statements of "basic" and "diluted" earnings (loss) per share. Basic earnings (loss) per share is computed by dividing net income (loss) by the weighted average number of common shares outstanding for the year. Diluted earnings (loss) per share is computed by dividing net income (loss) by the weighted average number of common shares outstanding plus potentially dilutive securities outstanding for each year. The computation of diluted earnings (loss) per share has not been presented as its effect would be anti-dilutive.

The Company excluded 10,000,000 and 10,000,000 options and 3,352,184 and 2,392,184 warrants from the calculation three and six-month periods ended December 31, 2012 and 2011, respectively as the exercise prices were in excess of the average closing price of the Company’s common stock.  In addition, all conversion prices of convertible debt were in excess of the average closing price of the Company’s common stock, and accordingly, excluded from dilutive share calculation.  Preferred shares outstanding of 9,000,000 are convertible into common stock on a one-to-one basis.  However, the effects of these shares would be anti-dilutive due to the net loss in the applicable periods.

Recent Accounting Pronouncements

The FASB issues ASUs to amend the authoritative literature in ASC. There have been a number of ASUs to date that amend the original text of ASC. Except for the ASUs listed above, those issued to date either (i) provide supplemental guidance, (ii) are technical corrections, (iii) are not applicable to the Company or (iv) are not expected to have a significant impact on the Company.

On October 10, 2012, we entered into a licensing agreement with Tarsin for rights to the CAPSA technology; the agreement is for a term of three (3) years. In connection therewith, we acquired exclusive rights to market, sell and service CAPSA in Canada, Mexico, as well as select customers in the United States. We must pay $100,000, annually, beginning in year two of the agreement. Under the license, we are subject to a royalty of 12.5% of revenues generated by the Company from the CAPSA technology. The Company also retains the “Right of First Negotiation” to enter into markets in the United States which do not overlap with the existing contractual relationships that Tarsin has with Stations Casino in Nevada. Through the date of the license agreement, we advanced Tarsin approximately $234,000 and applied such amount to the license. Amortization of said license during the six months ended December 31, 2012 and 2011 was $17,000 and zero, respectively. The Company will continue to amortize approximately $17,000 per quarter over the term of the license.

Loans payable are as follows:

Convertible Promissory Notes are as follows:

Convertible Notes Issued

In December 2012, the Company issued two (2) $100,000 convertible notes to one individual. The notes bear interest at 8% and mature in December 2013, at which time all principal and accrued interest is due and payable.  The notes and accrued interest thereon are convertible at $0.02 per share into the Company’s common stock at the option of the holder at any time prior to maturity.  

In addition, the same individual paid for certain expenses totaling approximately $19,000 during the three months ended December 31, 2012. Although the advances have no formal agreement to date, they have been included in convertible debt as they are expected to be convertible under similar terms as noted above.

The Company recognized interest expense of approximately $97,000, $86,000, $195,000, $150,000, and $645,000 during the three and six months ended December 31, 2012 and the period from Inception to December 31, 2012, respectively.

The amounts due to stockholders are non-interest bearing, unsecured and have no fixed terms of repayment. Stockholders advanced the Company approximately $5,350 and $1,000 during the six months ended December 31, 2012 and 2011, respectively. Stockholders were repaid approximately $18,000 and zero during the six months ended December 31, 2012 and 2011, respectively.

Employment Contracts

The Company has entered in an employment agreement with Mr. Patrick Shuster, as Chief Operating Officer of Consorteum Holdings Inc., Inc.  Below is a summary of the terms of such agreement:

The Company has entered in an employment agreement with Mr. Craig Fielding, as Chief Executive Officer of Consorteum Holdings Inc.  Below is a summary of the terms of such agreement:

In October 2012, the Company and Cellura, as well as certain of the individual defendants named in an action entered into a settlement agreement (“Settlement Agreement”) pursuant to which (among other matters) Cellura agreed to discontinue the Action against the Company and file a stipulation of discontinuance with prejudice with the Court in which the Action was pending. The parties also agreed to exchange general releases with each other such that all claims by Cellura and his affiliates against the Company will be resolved. In connection therewith, the Company will pay Mr. Cellura approximately $46,000, which is reflected in our consolidated balance sheets at December 31, 2012 and June 30, 2012.

Common Stock

There were no common stock issuances for the three months ended December 31, 2012.

The Company is authorized to issue 500,000,000 shares of common stock and 100,000,000 shares of preferred stock. At the present time, assuming all of the rights and obligations to issue approximately 248,000,000 shares of our common stock under convertible notes, warrants and stock options became due as of September 30, 2012, we would not have sufficient authorized common shares to fulfill as such obligations. However, our two officers, who are also directors, control sufficient votes through their holdings of Series A and B Preferred stock to increase the authorized shares at any time, when deemed appropriate. We intend to increase our authorized common shares from 500 million to 1 billion in the near future.

Preferred Stock

As of December 31, 2012, the Company has 100,000,000 preferred shares authorized, having a par value of $.001 per share.

In November 2011, the Company’s board of directors approved an amendment of the Company’s Articles of Incorporation, whereby the designations of Series A and Series B preferred stock were established, and the number of Series A preferred shares to be issued at 5,000,000 and the number of Series B preferred shares to be issued at 15,000,000. The rights and privileges of the Series A shares consist of super voting rights at 200 votes per share held, conversion rights on a one-to-one basis with common stock, and liquidation preference as described below. The rights and privileges of the Series B shares have voting rights equal to one vote per share held, conversion rights equal to Series A and liquidation preference as described below.

Upon any liquidation, dissolution, or winding up of the Company, whether voluntary or involuntary, before any distribution or payment shall be made to the holders of any common stock or Series B preferred stock liquidation preference, the holders of the Series A preferred stock shall be entitled to be paid out of the assets of the Company an amount per share of Series A Preferred Stock equal to the product of (i) the original amount paid by the holder thereof for each share of Series A Preferred Stock owned by such holder as of the effective date of such liquidation, multiplied by (ii) the number of shares of Series A Preferred Stock owned of record by such holder as of the liquidation date (as adjusted for any combinations, splits, recapitalization and the like with respect to such shares).  Series B preferred stock is next in liquidation preference after the Series A preferred stock, and is computed consistently with the formula above for the Series A preferred stock. See below for authorization of Series C Preferred Stock.

On September 21, 2012, the Company’s board of directors approved designations for Series C Preferred Stock. In connection therewith, we filed the designations with Nevada Secretary of State to reserve 40,000,000 shares of Series C Preferred Stock. The shares are voting, will pay no dividend, each shares convertible into four (4) shares of common stock, and have a liquidation preference after the Series A & B Preferred Stock.

On September 21, 2012, the Company’s board of directors approved two employment agreements which provide for the issuance and immediate vesting of 5,000,000 shares of Series A Preferred stock and 4,000,000 shares of Series B Preferred stock. In connection therewith, we recorded compensation expense of $18,000 based on the underlying value of the common stock of $0.002 per share on the date of grant.

Warrants

There were no warrants issued to purchase common stock during the six months ended December 31, 2012. As of December 31, 2012, there were 3,352,184 warrants outstanding.

Options

On September 21, 2012, in connection with two employment agreements (Note 7), we granted options to purchase 10,000,000 shares of common stock at $0.002 per share which vest in equal installments from September 1, 2012 through December 31, 2016; provided, however, that all remaining options shall vest immediately upon the termination with cause of the agreements. The fair value of the options at the late of grant was estimated using the Black Scholes option pricing model. The option issuances to the two employees were accounted for as a modification of existing options as the existing options were extinguished with concurrent issuance of these new options. The new options extended the vesting period and repriced the options. The Company valued the extinguished options immediately before extinguishment and compared the value of unvested shares to the new option issuance and determined that any incremental value was insignificant. Accordingly, the remaining option value on the original options of approximately $42,000 will be recognized over the term of the original options. In connection therewith, we recorded compensation in the amount of $8,750 during the six months ended December 31, 2012.

During the six months ended December, 2012, 6,000,000 stock options were cancelled or forfeited.

As of December 31, 2012, we had 10,000,000 options outstanding.

Funding Arrangement

On February 6, 2013, the Company entered into a binding term sheet commitment (the “Term Sheet”) for a $30,000,000 funding agreement with AIC Group Holdings Limited, a corporation organized under the laws of the British Virgin Islands (“AIC” or “Funder”). Other than the Term Sheet, there is no other relationship between the registrant and its affiliates and AIC.

AIC has agreed to lend $30,000,000 to the Company in six (6) consecutive monthly installments (the “Loan”) with the first portion of the funding to begin not later than 60 days from the date of the Term Sheet. The installments will vary in size depending upon the working capital requirements of the Company at the time each installment is due. AIC may extend only the first installment one time for a period of up to 45 days. The Loan will bear interest at the rate of six percent (6%) per annum, payable quarterly in arrears beginning one year from the funding of the first portion of the Loan. The Loan and all remaining accrued and unpaid interest is due and repayable seven (7) years after the first funding installment; provided, however, that the Company may extend the repayment date for two successive one year periods by giving 90 day prior notice to AIC and paying an extension fee of 2% of the principal amount of the Loan to be renewed. If AIC defaults in making any installment of the Loan, then the Loan shall terminate forthwith and the Company shall have no repayment obligation to AIC. The Company may prepay all or any portion of the Loan at any time without premium or penalty. The Company will grant AIC a first priority security interest in and to all of its assets including its Intellectual Property (“IP”) as collateral security for the Loan. If the Company defaults in making any repayment of interest or principal or under any other material terms and conditions of the Loan, AIC shall have the rights of a secured party under the security agreement to foreclose on the Company collateral to satisfy the Loan. The Company will pay a total of four percent (4%) of the Loan in origination fees to two consultants as each portion of the Loan is funded, and a one time administrative fee of $150,000 that will be refunded if the funding of the Loan does not occur as scheduled.

AIC has agreed to use its best efforts to provide directly or through an affiliate a bridge loan for $2,000,000 (the “Bridge Loan”) within sixty (60) days of the execution of the Term Sheet. The Bridge Loan shall bear interest at the rate of six percent (6%) per annum and shall be repayable from the first proceeds under the Loan. If the Loan does not proceed, then the Bridge Loan, if made, will convert to a convertible note that shall continue to bear interest at six percent (6%) per annum and be repaid in one year from its date and be convertible into restricted shares of common stock of the Company at any time at a conversion rate equal to 85% of the average closing price per share of common stock of the Company for the five (5) days preceding the conversion date.

As part of the Loan, the Company shall issue to AIC an amount of its shares of common stock as shall equal thirty–five percent (35%) of all of the issued and outstanding shares of common stock of the Company calculated on a fully-diluted basis (the “AIC Shares”); provided, however, that the issuance of the AIC Shares shall not occur until one year from the date of the first funding of the Loan by AIC to the Company. In the event that the Loan or any portion thereof is not funded as scheduled, the Company shall issue only that portion of the AIC Shares to AIC that is calculated as the percentage of the amount of the Loan actually funded by AIC to the total Loan amount. All of the AIC Shares shall be restricted shares and AIC shall enter into a covenant not to engage in any short selling nor to sell more than certain specified numbers of its shares during each quarterly period.

There are other conditions to the Loan as follows: (1) AIC shall be given the right to designate up to two directors to the Company’s Board of Directors such appointments to be made in time with the funding of the Loan. (2) AIC and the Company shall enter into a Business Services Development Agreement under which AIC will assist and advise the Company in connection with development of its business under its business plan in effect from time to time. (3) The parties will negotiate and execute certain agreements to reflect all of these transactions including a loan agreement, a secured promissory note, a share issuance and shareholders agreement, a convertible bridge note, a business services development agreement, and such other documents as the parties may mutually agree.